Glamor Economics

Chapter 124

Chapter 16 Section 4 How the Central Bank Controls the Exchange Rate Rise and Falls——The Theory of Foreign Exchange Intervention

The so-called intervention in the foreign exchange market refers to the foreign exchange transactions of the monetary authority in the foreign exchange market to affect the exchange rate of the domestic currency.Its channels include foreign exchange reserves, transfers between central banks, or official lending.

In the early 19s, the exchange rate of the U.S. dollar against the currencies of all European countries was on the rise, and whether the industrial countries should intervene in the foreign exchange market or not, the Versailles summit meeting of industrial countries in June 80 decided to set up a group of official economists. The "Foreign Exchange Intervention Working Group" dedicated to the study of foreign exchange market intervention. In 1982, the group published the "Working Group Report" (also known as the "Jergenson Report"), which narrowly defined intervention in the foreign exchange market as "any foreign exchange transaction by a monetary authority in the foreign exchange market to affect the exchange rate of the domestic currency." ", which can be achieved through the use of foreign exchange reserves, inter-central bank transfers, or official lending.In fact, in order to truly understand the essence and effect of the central bank's intervention in the foreign exchange market, it is also necessary to understand the impact of this intervention on the country's currency supply and policies.Therefore, in terms of the means by which the central bank intervenes in the foreign exchange market, it can be divided into interventions that do not change the existing monetary policy (also known as "disinfected intervention") and interventions that change the existing monetary policy (also known as "non-disinfected intervention").The so-called intervention without changing the existing monetary policy means that the central bank believes that the sharp fluctuation of foreign exchange prices or the deviation from the long-term equilibrium is a short-term phenomenon, and hopes to change the existing foreign exchange prices without changing the existing money supply.In other words, changes in interest rates are key to changes in exchange rates, and central banks try to change the exchange rate of their currency without changing domestic interest rates.

Generally speaking, successful foreign exchange intervention needs to meet the following conditions: first, the short-term financial market turbulence causes violent fluctuations in the exchange rate, and this short-term shock is not sustainable; It can be reflected in the long-term global trade imbalance in the economy; third, due to the large daily trading volume in the foreign exchange market, successful foreign exchange intervention often requires the coordination and joint intervention of central banks of all countries.Under the above conditions, market intervention will often be accompanied by a trend reversal of the exchange rate, which will accelerate the convergence of the exchange rate to the equilibrium level by influencing the expectations of other market participants.On the contrary, if the foreign exchange market intervention is only understood by market participants as increasing "noise", the short-term effect will be limited, and the final intervention action will be nothing but an empty hand.

The supply and demand in the foreign exchange market will increase or decrease due to environmental changes, and the exchange rate level is determined through the operation of the free market mechanism.However, based on the responsibility of maintaining the country's economic stability, the central bank will more or less intervene in the foreign exchange market and buy and sell foreign exchange due to policy factors.

1. The purpose of central bank intervention in the market

Under the principle of floating exchange rate system, the reasonable price of a country's currency should be determined by the supply and demand of foreign exchange in the market.However, if the central bank finds that the exchange rate of the domestic currency deviates from the target set by the government and the central bank, or there are unreasonable price fluctuations, which will affect the economic development of the domestic economy and the economic interests of international trade, the central bank will inevitably make a decision in the foreign exchange market. Intervene.

Any country takes stabilizing the development of the financial market as one of its policy goals. When there are sharp price fluctuations in the foreign exchange market, it is easy to cause speculators to take advantage of the large bid-ask spread and make a lot of speculation to earn profits. At this time, the central bank will adjust the foreign exchange The quantity of supply guides the exchange rate to a certain price to exclude speculators' hype.This kind of intervention is quick and obvious, and it is constantly staged in the daily foreign exchange market transactions.

Sometimes the central bank intervenes not when the exchange rate fluctuates violently, but considers it from the perspective of overall economic development and delineates the range of exchange rate fluctuations. Once the exchange rate exceeds this range, the central bank will consider intervening.

2. Methods and effects of central bank intervention
The central bank intervenes in the market mainly by using the principle of supply and demand, and adjusting the exchange rate level by adjusting the quantity of supply or demand in the foreign exchange market.For example, the exchange rate of US dollar to Japanese yen in the market is 1:105 (that is, 1 US dollar is exchanged for 105 yen). Assuming that the US dollar weakens at this time, the demand for US dollars in the market is less than the supply of US dollars, and the price of US dollars is depressed. The dollar-yen exchange rate fell from 105 to 103, and the yen appreciated accordingly.Since the appreciation is not conducive to exports, in order to maintain the competitiveness of exports, the Bank of Japan wants to depreciate the yen and raise the exchange rate of the dollar, so it must increase the demand for dollars or reduce the supply of dollars, and at the same time reduce the demand for yen or Increase the supply of yen, which in turn makes the dollar stronger and the yen weaker.As a result, the Bank of Japan came forward to buy a large number of dollars in the foreign exchange market and sell the yen, allowing the dollar to appreciate and the yen to depreciate. As a result, the exchange rate of the dollar against the yen rose from 1:105 to 1:107. Yuan weak situation.

[links to related words]

Intervention without changing the existing monetary policy is also called "disinfection intervention". There are foreign exchange prices.In other words, it is generally believed that changes in interest rates are the key to changes in exchange rates, and central banks try to change the exchange rate of their currencies without changing domestic interest rates.

Intervention in the foreign exchange market that changes policies is also called "non-sterile intervention", which is actually a change in the monetary policy of the central bank. Changes in the direction of the intervention target.Generally speaking, this kind of intervention is very effective. The price is that the established domestic monetary policy will be affected, and the central bank is only willing to take it when it sees that the exchange rate of the domestic currency deviates from the equilibrium price for a long time.

(End of this chapter)