INTERNATIONAL LIQUIDITY AND RESERVES PROBLEMS

Presented by Abhishek Singh-R590210002 Amber Chourasia-R590210003 Lalita Khaklary-R590210012 Naman Gutpa-R590210016 Uthamaveeran S-R590210021 Varun Kumar -R590210022

AGENDA
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What is international liquidity History of international liquidity Constituents of international liquidity Problems of international liquidity Policy guidelines to overcome the issues Conclusion

INTERNATIONAL LIQUIDITY
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International liquidity means the relative amount of resources available to a nations monetary authorities that could be used to settle a balance of payments deficit. International liquidity includes international borrowings, commercial credit operations and the international financial structure in a countrys reserves.

History of International liquidity

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In

the days of the gold standard, this would mean access to gold that could be used to redeem a nations currency held by foreigners Bretton Woods agreement till 1960 the exchange rates of countries were fixed in terms of gold or the US dollar at $35 per ounce of gold
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Before

Contd
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After 1971, with the abandonment of the dollar-gold exchange standard, as the world entered an era of managed exchange rates, some floating, some pegged, international liquidity came to mean the resources available to national monetary authorities to maintain the value of their currencies as required by their exchange management programs.

INTERNATIONAL MONETARY RESERVES

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International liquidity under the ownership of the central bank Foreign exchange reserves in central banks Unused Gold tranche at IMF Credit tranche Special drawing rights (SDR)

INTERNATIONAL LIQUIDITY FACILITATION

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International liquidity under the ownership of all other agents in the economy: operative foreign exchange reserves of commercial banks foreign exchange assets of nonbanking subjects abroad short-term foreign assets of the residents long-term foreign bonds of the residents possibilities of the banks to get credits for financing balance-of-

CONSTITUENTS OF INTERNATIONAL LIQUIDITY

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Primary Liquidity Subsidiary Liquidity Ad hoc Liquidity

PRIMARY LIQUIDITY
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The primary medium of international liquidity comprises of gold and foreign currencies that are easily convertible and universally acceptable Eg.- US dollar and Pound sterling. Therefore the amount of resource of gold , US dollar and Pound the country holds determines the primary international liquidity of that country

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SUBSIDIARY LIQUIDITY
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The Subsidiary liquidity is provided by the International monetary fund to its membercountries for the purpose of meeting current balance of payments difficulties. A member countrys access to international liquidity through the IMF falls into two parts-: The Gold tranche The Credit tranche The amount of liquidity received in credit from IMF depends on the subscription quota Gold tranche:25% of quota Credit tranche:25% of quota

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ADHOC LIQUIDITY
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The ad-hoc supply of international liquidity comes through currency arrangements arrived at bilaterally. The countries that fulfill the obligations of article viii of IMF comes under this kind There are 10 countries: Belgium, Canada, France ,western Germany, Italy, Japan, Netherlands, Sweden ,UK, USA and Switzerland. It acts as a first line of defense due to currency weakness due to short term cash outflow

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RESERVE PROBLEMS

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Reserves problems
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Rapid reserves growth Exchange rate volatility Systemic imperfections Potential sources of instability Volatile capital flows Ratchet effects

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Rapid reserves growth

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Forecast potential reserve growth. To meet the future need of the country. Levels of Assessment

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Exchange rate volatility

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External credibility problems High and low exchange rate Difficulty in handling interest rate for countries.

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Potential Source of Instability

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two possible threats to IMS stability arise from reserve accumulation that is large relative to the size of the reserve issuers
Qualitative

Effects Quantitative Effects

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Volatile capital flows

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A feature of globalization has been huge growth in private international financial flows The volume of global net private capital flows going to emerging markets increased sharplyfrom $90 billion in 2002 to $600 billion in 2007. This growth, which has generally been seen as welfare enhancing, is expected to continue. However, many emerging markets have very small financial intermediation capacity compared to the large inflows they can attract.

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Ratchet effects
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In addition to self-insurance, and to the extent international investors consider high reserves indicative of lower risk for them Individual countries may feel compelled to acquire reserves not only sufficient to cover their own needs in a sudden stop

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Constituents of International liquidity

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Primary liquidity: Gold and those foreign currencies which are universally accepted. Subsidiary Liquidity: provided by IMF to its member countries for meeting current balance of payments difficulties. Ad Hoc liquidity: supply of international liquidity to the participating countries in need of liquidity

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Inadequacy of International liquidity

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Developed countries: There is no problem of international liquidity Developing countries: Increased provision of International finance through foreign aid helps pushing the rate of economic growth. These countries generally face a chronic shortage of international liquidity.

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Policy Guidelines
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In order to overcome the shortage of International liquidity: Transfer the primary resources of international liquidity from rich countries to poor countries. G.A.T.T and I.B.R.D two U.N agencies are looking into it.

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SOLVING INTERNATIONAL LIQUIDITY PROBLEMS

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BALANCE OF PAYMENT ADJUSTMENT

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Long-run equilibrium in the current account. Neoclassical view and realistic circumstances in the world economy: validity of the automatic elimination of the balance-of-payments disequilibria assumption analysis of the balance-of-payments disequilibrium emergence difference in different groups of economic agents

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CONSISTENCY OF THE SYSTEM AND CONFIDENCE

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Relevance

of the mechanism for the elimination of balance-of-payments disequilibria appropriateness of the size of the international liquidity establishment of a mechanism for the coordination of the balance-of-payments goals

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MECHANISMS FOR ESTABLISHING A CONSISTENT INTERNATIONAL MONETARY SYSTEM

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Automatic adjustment mechanism N-1 system International coordination system Monetary union system

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AUTOMATIC ADJUSTMENT MECHANISM

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changing the level of foreign exchange supply and demand:

flexible exchange rate:

de fic it do me stic c urre nc yde pre c iatio n fo r& o ffo re ign exc hang e balanc e o fpayme ntse quilibrium

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AUTOMATIC ADJUSTMENT MECHANISM

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fixed

exchange rate:

through price changes through changes in aggregate expenditures

Marginal propensityto import Multiplier Fallin aggregate expenditure s Balanceof payments deficit Fallin supplyof money Lowerrate ofinflation Improved competitiveness relativetoother countries Priceelasticities Decreasein GDP Decreasein domesticdemand Increasedexports Decreased imports

Decreasein thedeficit Decreased imports

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Increasedexports

N-1 SYSTEM
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n-th country currency (N-currency) is convertible into a widely accepted good at a fixed price, the currencies of all other countries are related to it in a fixed relationship countries must accept and implement economic policy measures for balance-ofpayments adjustments

rie swithasurplusare unde rsignific antlylo we rpre ssure to adjustthe irb

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ASYMMETRY OF ADJUSTMENT
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countries with a balance-of-payments deficit carry a relatively higher cost burden N-country must accept whatever net balanceof-payments position is dictated by the group of n-1 countries in the system:
strong

time N-currency must be stable

and a fairly closed economy at the same

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INTERNATIONAL COORDINATION SYSTEM

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economic policy coordination of the world economic forces & exchange rate movement coordination crucial: exchange rate regime choice reasons for balance-of-payments disequilibrium: external shocks weak or no accordance in the economic policy of individual countries

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MONETARY UNION
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countries

completely give up their national monetary policy and surrender it to some above-national institution

common

currency becomes the only legal tender in all monetary union member countries

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Bottom Line
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Problems are not unavoidable as per IMS There is no clear market-driven process that would bring about a more robust system. The Fund can play a role in making the system more stable over the next decades

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REFERENCES
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www.imf.org www.meaindia.nic.in www.wikipedia.org www.scribd.com

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THANK YOU