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The Flexible Model, Gold Dinar and Exchange Rate Determination - DRAFT

The Flexible Model, Gold Dinar and Exchange Rate Determination - DRAFT

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Published by: خير الأنام الحبشى on Jan 20, 2011
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The Flexible Model, Gold Dinar and Exchange Rate Determination.An Exploratory Study.Prof. Dr. Abdul Ghafar Ismailagibab@pkrisc.cc.ukm.my Universiti Kebangsaan MalaysiaNuradli Ridzwan Shah Bin Mohd DaliNuradli@kms.uniten.edu.my
1
 Universiti Tenaga NasionalAbstract
Malaysia is promoting the usage of Gold Dinar as a payment settlement in international trade as a platformof unity between OIC countries. In respond, this paper would investigate the
consequences
of using theGold Dinar as a medium of exchange partially and entirely using the flexible model assumptions andinvestigate its impact to the flexible model as an exchange rate determination. The paper will also evaluatethe whether the Gold Dinar could play its role as a medium of exchange or money.
A. Introduction
Malaysia is promoting the usage of Gold Dinar as a payment settlement in internationaltrade as a platform of unity between OIC countries. In respond, this paper wouldinvestigate the
consequences
of using the Gold Dinar as a medium of exchange partiallyand entirely using the flexible model assumptions and investigate its impact to theflexible model as an exchange rate determination. The paper will also evaluate thewhether the Gold Dinar could play its role as a medium of exchange or money.There are three basic roles of money, which are widely accepted. The roles of money areas a medium of exchange, as a store of value and as a unit of accounts. Money acts as amedium of exchange because it is accepted for exchange of goods and can be used to buy
1
The authors also wish to express their appreciation for many scholars and practitioners who madeextensive comments on earlier and current drafts especially to Associate Prof. Dr. Mohd Zaidi Isa(Universiti Kebangsaan Malaysia, Malaysia), Abdul Kadir Abdul Riyas (University of Technology,Australia), Randi Wade Purchia (Commonwealth International, USA), Dr Samer Katakji (SKBSC, Syria),Samudjo Subandi (Pt Apexindo Pratama Duta Tbk, Indonesia), Muhdiar Bahril (PT Yusen, Indonesia),Tarsidin (The Univ. of Indonesia, Indonesia), Auwalin (Airlangga University, Indonesia),
 
MohammedGhazali,( Investment Dar Co. KSC, Kuwait), Tubagus Farash Akbar Farich (University of Indonesia,Indonesia), Dr Mohammad Alinor (Universiti Kebangsaan Malaysia, Malaysia) , Abdullah Haron (IslamicFinancial Service Board), Isra Ahmad (IAIN Ar-Raniry Banda Aceh, Indonesia) Carow, Kenneth A.(Indiana University, USA), Ahmad Touray, Annette Riggs (Financial Diversity for Local Economies,USA), Ali Mutasowifin (Universitas Paramadina, Indonesia), Rachmad Hernowo (Central Bank of Indonesia, Indonesia), Srikumar Ravindran (Virinchi Integrated Solutions Sdn Bhd, Malaysia), AssociateProff. Mohd Abdad Mohd Zain, (IsNet-Universiti Sains Malaysia, Malaysia), Hifzur Rab (Oil & NaturalGas Corporation Ltd, India), Bhakti Mirchandani (Harvard Microfinance and Development Venture Capital(MADVC) Network, Harvard University USA) Georgina Mercedes Gomez (ISS, Netherland), Ungku Sara(Malaysia), Rafeah Fazlina (Malaysia), Muhammad Mazli Alias (Permodalan Nasional Bhd, Malaysia),Mohammad Rezal Hamzah (Institute for Community and Peace Studies University Putra Malaysia,Malaysia), Mohamad Zaini Ismail (ABB Lummus Global P/L), (Aznan_Zuhid Saidin (Malaysia), EkoFajar (Sony LSI Japan, Indonesia), Bahril (Indonesia) Syed Muhammed Kifni (Alliance Merchant Bank,Malaysia)
 
2other goods. It must also act as a store of value for it could be used to trade current goodsfor future goods and it could also be measured as a unit of account. Money that couldfulfill all the three roles is categorized as good money. The problem with the existingmoney in our monetary system is its failure as a store of value and as unit of account(Hifzur 2002).This in fact is true if we look at how purchasing power, decreases in currency value dueto inflation and currency depreciation resulting from money creation. In addressing theproblem of storage of value it is important for us to see the types of money that is inexistence. The followings are some of commonly used types of money:1.
 
Commodity money is money that has value of own. Examples of the commoditymoney are gold, silver, barley, wheat, salt and dates.2.
 
Private bank notes (pbn) are notes that Banks issued with promise to redeem forgold. This
 pbn
was widely used in the 1800s in the US. The major problem with
 pbn
was bank insolvency due the to issuance of notes more than their underlyinggold reserve
2
.3.
 
The Gold Standard (
gs
) is a government issue of paper currency backed by gold.Each note could be redeemed for a specified quantity of gold. The Gold Standardreduces the cost of carrying physical gold
3
.4.
 
Fiat money is the government issue of paper currency backed only by thereputation and trust of the value. This system depends heavily on the trust of thepeople to believe that it has value and accepted by others. We have been using thefiat money since the abandonment of the Gold Standard in the Bretton WoodSystem
4
.5.
 
Other forms are silver coins, community money, hours, and flying kilometers(Hirzur, 2002).The fiat money could not fulfill its role as a store of money and as unit of account. TheAsian financial crisis of 1997 is an example of this disadvantage. This disadvantagecomes into play when speculators could manipulate the fiat money and the monetarysystem through serial speculative attacks on a regional group of countries, provokingmassive capital outflows, simultaneous crisis and recession for a whole region (Konac,2000). Since these regional currencies were being used as unit of account massive fall inthe quantity of wealth represented by them badly corrupted the accounting process,introduced massive uncertainty in expected rate of return that forms basis of investmentthat pulverized the economy (Hifzur, 2002)For example, the annual average exchange rate for Malaysian Ringgit has depreciatedfrom 2.514 in 1996 to 3.924 in 1998 against the USD before being pegged at 3.80 perUSD in September 1998. Table 1, shows that the RM/USD was stable from 1990 until1997 prior to Asian currency crisis.
2
Private Bank Notes which will be denoted as
 pbn
 
3
Gold Standard which will be denoted as
gs
 
4
Fiat money, which will be denoted as
 M 
 
 
3
Title: Annual Average RM/USD from 1990 to 2003
2.7052.752.5472.5742.6242.5042.5162.8133.9243.83.83.83.83.822.533.544.519901991199219931994199519961997199819992000200120022003
YearNote: Data collected from International Financial Statistics Online
     R     M     /     U     S     D
RM/USD
 Another example was the case of Malaysia’s neighboring country, Indonesia (see Table2). The Rupiah depreciated drastically against the USD at about
244.18 percent 
in 1998
 
from Indonesian Rupiah 2909.38 per USD to Indonesian Rupiah 10,013.60 per USD.
Title: Annual Average Exchange Rate for Rupiah/USD from 1990 to 2003
  1   8  4   2 .   8  1  1   9   5   0 .  3   2   2   0   2   9 .   9   2   2   0   8   7 .  1   2  1   6   0 .   7   5   2  3  4   2 .  3   2   9   0   9 .  3   8  1   0   0  1  3 .   6   7   8   5   5 .  1   5   8  4   2  1 .   7   7  1   0   2   6   0 .   8   9  3  1  1 .  1   9   8   5   7   7 .  1  3   2   2  4   8 .   6  1
02000400060008000100001200019901991199219931994199519961997199819992000200120022003
YearNote: Data collected from International Financial Statistics Online
     R    u    p     i    a     h     /     U     S     D
Rupiah/USD
Note: Longer Historical exchange rate series are shown in appendix 1
.Supply of fiat money can be increased freely without limit. Increase in money supplybeyond the increase in economy’s output leads to corresponding reduction in the quantityof wealth represented by money. Since money is used as unit of account change in thequantity of goods represented by currency corrupts accounting process and therefore alleconomic transactions that are spread over time. It is therefore a clear case of fraudexactly similar to the fraud that results due to manipulation of weights and measures.Clearly it is not permissible under the divine law (Shariah). While it does provide somerelief to the interest based capitalist system it acts as a poison for the Islamic system. It is

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