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Methods for stabilising intraregional exchange rates

Economic numéraire in SI units avoiding the effect of currency exchange rate volatility Ian McFarlane School of Agriculture, Policy and Development University of Reading, UK. Methods for stabilising intraregional exchange rates.

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Methods for stabilising intraregional exchange rates

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  1. Economic numéraire in SI units avoiding the effect of currency exchange rate volatilityIan McFarlaneSchool of Agriculture, Policy and DevelopmentUniversity of Reading, UK

  2. Methods for stabilisingintraregional exchange rates • Kawai (2008): emergence in East Asia of macroeconomic and structural convergence • acknowledged as a necessary condition for common currency, first identified by Mundell in 1961 • Hsu (2008): feasibility of a common currency for Hong Kong, Korea, Malaysia, Philippines, Singapore and Thailand • Soo and Chung (2010): re-investigated the behaviour of these six economies, concluding that segmentation had declined significantly

  3. Numériare for value of a regional currency An international currency unit already exists, The World Bank Special Drawing Right (SDR) The SDR is defined in terms of a weighted basket of four existing currencies: US Dollar EU Euro Japanese Yen British Pound

  4. Numériare for value of a regional currency An alternative is to use a weighted basket of goods, to represent real purchasing power

  5. Exchange rates andcommodity prices • countries that are considered to have ‘commodity currencies' include Australia, New Zealand and Canada as well as some East Asia countries that are rich in natural resources • Clements and Fry (2008) found that spillovers from commodities to currencies contributed less than 1% to the volatility of currencies, • while spillovers from currencies to commodities contributed between 2 and 5.2% to commodity price volatility

  6. Relative volatility: [as deviation from expected value of 1961 – 2008 annual mean data]

  7. Commodity dataWorld cereal production (Mt/year):

  8. Commodity dataWorld food prices (US$/tonne, deflated) are more volatile than would be expected from normal market forces:

  9. Currency volatility • Volatility of annual mean exchange rates against US$ for 1971 - 2009:

  10. Currency volatility • The volatility of aggregate real exchange rates exceeds what economists believe to be consistent with a plausible degree of price rigidity (Crucini et al, 2010) • Richard Cooper (1999) foresaw that as international financial transactions continue to grow, financial factors will come to dominate exchange rate determination • Flexible rates, hitherto providing a useful mechanism for absorbing trade shocks and disturbances, themselves become a source of financial shocks

  11. Commodity basket as numériare for purchasing power • Agricultural commodities are by their nature entirely replaceable, and agricultural economists can predict the marginal cost of producing approximately sufficient of each commodity to satisfy the market in the short term • Agricultural commodity supply in the long run is infinitely elastic

  12. Commodity-basedcurrency numéraire • FAO estimated 2620 food calories (10.97 MJ) per capita per day to be actual world food energy consumption in 2009 (FAO, 2011) • For our numéraire, a basket of food commodities is defined, and used to convert the requirement for 10.97 MJ/cap/d to monetary units • We add a second component, representing the cost of actual energy usage

  13. Commodity-basedcurrency numéraire • Mackay (2009), ‘Sustainable Energy – without the hot air’, showed that average UK energy consumption is • 125 kWh/cap/d • - with feasible efficiency savings, a western lifestyle requires • 80 kWh/cap/d

  14. Commodity-basedcurrency numéraire • 80 kWh equivalent to • 288 MJ • 9 litres petrol • 1/20 barrel of oil • 10 kg coal • 7.5 m3 natural gas

  15. Food component (kg/cap/day for 10.97 MJ)

  16. Food component cost (US cents/c/d)

  17. Energy component (288 MJ/cap/day)

  18. Energy component cost (US$/c/d)

  19. SI commodity based unit of valueDays of subsistence affordable per unit of fiat currency

  20. References • Clements K., Fry R. (2008) Commodity currencies and currency commodities. Resources Policy 33, 55-73 • Cooper R.N. (1999) Exchange rate choices. Federal Reserve Bank of Boston. http://www.bostonfed.org/economic/conf/conf43/99p.pdf • Crucini M., Shintani M., Takayuki T. (2010) Accounting for persistence and volatility of good-level real exchange rates: The role of sticky information. J Int Economics 81(1), 48-60 • FAO (2011) World calories - total. http://www.fao.org/economic/ess/chartroom-and-factoids/chartroom/93-world-calories-total/en/ . • Hsu H. (2008) Is a common currency area feasible for East Asia? A multivariate structural VAR approach. http://www.osipp.osaka-u.ac.jp/archives/DP/2009/DP2009E006.pdf . • Kawai M. (2008) The Role of an Asian Currency Unit for Asian Monetary Integration. Asian Development Bank Institute http://www.obela.org/system/files/Microsoft+Word+-+Masahiro+Kawai.pdf • Mackay D. (2009) Sustainable energy - without the hot air. UIT, Cambridge, UK. ISBN 978-0-9544529-3-3 and 978-1-906860-01-1. • Soo S-C., Choong C-K. (2010) An emergence of a Common Currency Area in the selected East Asian economies: a revisit. Singapore Econ Review 55(2), 353-376

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