In this chapter we will first explain what is meant by the balance of payments. In doing so we will see just how the various monetary transactions between the domestic economy and the rest of the world are recorded.
Then (in Sections 12.2 and 12.3) we will examine how rates of exchange are determined, and how they are related to the balance of payments. We will see what causes exchange rate fluctuations, and how the government can attempt to prevent these fluctuations.
A government could decide to leave its country’s exchange rates entirely to market forces (a free-floating exchange rate). Alternatively, it could attempt to fix its currency’s exchange rate to some other currency (e.g. the US dollar). Or it could simply try to reduce the degree to which its currency fluctuates. In Section 12.4, we look at the relative merits of different degrees of government intervention in the foreign exchange market: of different ‘exchange rate regimes’.
We then turn to look at attempts to achieve greater currency stability between the members of the EU. Section 12.5 looks at the European exchange rate mechanism which sought in the 1980s and 1990s to limit the amount that member currencies were allowed to fluctuate against each other. Then Section 12.6 examines the euro. Has the adoption of a single currency by eleven EU countries and then a twelfth (Greece) been of benefit to them? Would it benefit the UK to join?
We then take a global perspective. We ask whether an expansion of global trade and a closer integration of the economies of the world has led to greater or less stability. Finally, as with Chapter 11, we look at the position of developing countries, and in particular focus on the issue of debt. Why are so many developing countries facing severe debt problems and what can be done about it?
