Task: Let's think about currency boards. Consider the Hong Kong Monetary authority which is the currency board for Hong Kong. The exchange rate is fixed at HK$ 7.75/US$
The balance sheet for authorized institutions in the banking sector in Hong Kong looked like this as of February, 1997:
Banking System Assets Banking System Liabilities
(HK$ Billions)
Foreign Currency Reserves = HK $682 The Domestic Money Supply = HK$2,828
Net Lending and Other
Debt Instruments Held = HK $ 2,146
Question 1: Briefly explain how a currency board system works.
Question 2: Given your explanation in (a), how can the money supply be so much larger than the actual holdings of forex reserves of the Hong Kong Monetary Authority (the central bank). Assume the central bank is holding all HK 682 of the forex reserves.. I am looking for a key concept here with a number to go with it.
Assuming that Hong Kong comes about as close to the paradign for perfect capital mobility as one can get, answer the following questions:
Question 3: Might one observe a seasonal pattern to interest rates in Hong Kong? Might one observe a seasonal pattern to foreign reserve holdings of the monetary authority ?
Question 4: Using the IS/LM graphically show the economic effect of foreigners selling off in large quantities Hong Kong financial assets and repatriating their US$, Swiss Francs and Euros etc. home.
Question 5: In the case of a recession, what type of stimulative policies would you recommend - monetary, fiscal, both, neither. Be precise.