Ranjana Bhandari
Summer I 1999
ECON 4322 - International Financial Relations

This is a course in international monetary economics. Here, we will first seek to understand how exchange rates are determined. We will then examine the balance-of-payments accounts. We will study various mechanisms for adjusting balance-of-payments disequilibria. Our goal will be to study the international financial system and the relationship between this system and the performance of the domestic economy. Different government policies for adjustment, and international macro-policy coordination will be critically evaluated. We will use this foundation for a discussion of issues of European economic and monetary integration. Lastly, we will examine the history of the international monetary system, concentrating on its present functioning and current international economic problems.


The primary text for the course is D. Salvatore, International Economics, 6th edition, Prentice Hall 1998.

Course Outline

I. Foreign Exchange Markets, Exchange Rates & Balance of Payments

  • Foreign Exchange Markets
  • Functions of the market
  • Exchange rate determination
  • Arbitrage
  • Spot and Forward Rates
  • Foreign Exchange Futures and Options
  • Foreign Exchange Risks, Hedging & Speculation
  • Interest Arbitrage & Efficiency of Exchange Markets
  • II. Balance of Payments

  • Accounting Principles
  • International Transactions of the US
  • Accounting Balances & Disequilibrium in International
  • Transactions
  • Brief Postwar Monetary History of the US
  • International Investment position of the US
  • US as a Debtor Nation
  • III. Open-economy Macroeconomics - Balance of Payments and Domestic Stability

    A. Price Adjustment Mechanism

  • Adjustment under Flexible Exchange Rates
  • Demand & Supply of Foreign Exchange
  • Effect of Exchange Rate changes on domestic prices
  • Stability of Exchange Markets
  • Elasticities
  • The J-curve
    B. Income Adjustment Mechanism
  • Income determination in an open economy
  • Large economies and Foreign Repercussions
  • Monetary Adjustments
  • Automatic Adjustments
    C. Adjustment Policies
  • Internal and External Balance
  • Expenditure changing & Expenditure switching policies
  • Policies with fixed exchange rates
  • Trade Controls
    D. Monetary and Portfolio Balance Approaches
  • Monetary approach under fixed rates
  • Monetary approach and Inflation
  • Monetary approach under flexible rates
  • Portfolio balance approach
  • Exchange rate dynamics
  • Empirical tests of the two approaches
    E. Flexible versus Fixed Exchange Rates
  • Case for Flexible Rates
  • Case for Fixed Rates
  • Optimum Currency Areas - The European Monetary System
  • Exchange rate bands, Adjustable Pegs, Crawling Pegs
  • International Policy Coordination
    F. The issues of European Integration
  • The European Monetary System at work
  • Inflation and Central Bank Independence
  • Budget Deficits and Public Debt
  • Unemployment and Growth
  • IV. History of the International Monetary System

  • The Gold Standard
  • The Bretton Woods System
  • The International Monetary Fund
  • The Present International Monetary System
  • Problems
  • Proposals for reform