Session 17 part b

Reading

1.This set of slides

2. Class notes
 Flexible exchange rate regime: RBIs actions

If BOP is in deficit:
e D$
D$ S$
- the public owe a sum of $s to foreigners
- They approach the RBI to exchange
e2
rupees and get $s instead.
- RBI buys the $ from the foreign e1
exchange market .
- demand for $ increases
- price of $ increases
- rupee exchange rate increases
or rupee depreciates Quantity of $
 Flexible exchange rate regime: RBIs actions

If BOP is in surplus:
e
D$ S$
- the public has accumulated a sum of $s S$
- They approach the RBI to exchange this
$s for rupees.
e1
- RBI sells the $ in the foreign exchange
e2
market.
- supply of $ increases
- price of $ falls
- rupee exchange rate falls
Quantity of $
or rupee appreciates
 Fixed exchange rate regime: RBIs actions

If BOP is in deficit:
e D$
(RBI sells $s to citizens) D$ S$
- the public owe a sum of $s to foreigners S$
- They approach the RBI to exchange this
e2
sum of rupees for $s.
- RBI uses its reserve of foreign currency e1
to pay for this deficit.
- reserves are depleted.

- This sum of rupees gets reduced from

the monetary base Quantity of $
- money supply reduces
 Fixed exchange rate regime: RBIs actions

If BOP is in surplus:
e D$
(RBI purchases $ from citizens) D$ S$
S$
- the public has accumulated a sum of $s
- They approach the RBI to exchange this
$s for rupees. e1
- the $s are accumulated with RBI e2
reserves increase.

- RBI prints money (Rs.) to pay for the $s.

- This raises monetary base Quantity of $
- money supply increases
 Exchange Rates:

Nominal exchange rate: e

It is the number of rupees to be given up to get 1 dollar.
A rise in e : Depreciation of Rupee.
A fall in e : Appreciation of Rupee.

Real exchange rate: e. [Pf/P]

Where Pf = price index of the foreign country
P = domestic price index
It is the rate at which home good is exchanged for foreign good