Two small concept questions on currency

Can someone explain: 1. How does currency dealer’s position affect the bid-ask spread? 2. How does expansionary fiscal policy of a country affect its currency? Thx!

  1. if dealer wants to sell more (for ex: 1.1-1.2 - he will sell in 1.2), he will adjust his bid-ask to lower (1.1-1.15 - this means he is not willing to buy more but sell more as he just deceased his selling price) and vice versa. His position also depends on liquidity (liquid currencies have small spread), volume (more volume less spread) etc. 2. Fiscal policy will have mixed currency. This will make country’s current account situation so currency depriciates but at the same time improves financial account situation hence currency appreciates. FYI point 2: I don’t remember this but I am referring to my notes.

Just remember this: Fiscal policy causes int rates to increase, while monetary policy causes the Fed to cut int rates. Everything else between monetary/fiscal is basically the same. High int rates (fiscal policy) cause investment to flow into the country, raising the financial account and appreciating currency; however, the same crap that drags down monetary policy, meaning increase in demand–>increase in buying imports–>decrease in current account also applies to fiscal policy. Bottom Line: Therefore, there will be an increase in value of currency due to increased investment, but a decrease in value of currency due to exports-imports spread decreasing, so there’s a mixed effect.

Why expansionary fiscal policy causes the increase of int rate?

lzhao Wrote: ------------------------------------------------------- > Why expansionary fiscal policy causes the increase > of int rate? because of increase in aggregate demand of imports from other countries.

If I recall correctly, however, an expansionary fiscal policy will usually result in currency appreciation as the FA effect dominates the CA/Import effect. Whereas with monetary policy its an unambiguous depreciation of the currency.

^ I recall that too. There is no mixed effects. One dominates over the other and the currency appreciates.

Can you explain why it appreciates? I think that is the answer…

Let’s see if I get this right … a currency would appreciate as a result of an expansionary fiscal policy because aggregate demand would increase as a result of the government’s actions - this lead by the gov’t spending more money and hence creating a budget deficit. As aggregate demand increases, so will interest rates start to creep up. Higher interest rates will attract foreign capital as investors overseas will want to get a piece of that higher rate. As more investors demand more foreign currency, that will lead to an appreciation as a result …

@clama: expansionary fiscal policy=more government spendig + less taxation of the people, hence budget deficits that must be financed. Greater demand for funds raises rates and attracts capital from abroad.

swaptiongamma Wrote: ------------------------------------------------------- > ^ I recall that too. There is no mixed effects. > One dominates over the other and the currency > appreciates. Capital account dominates current account…i.e. inflow of funds due to higher interest rates (Currency Appreciation) dominates outflow of funds due to higher income and higher imports (Currency dep.)

I understand 2 now. but for 1. Is the bid-ask spread a result of dealer position?

my take on #1: the bid-ask spread is a result of volume, volatility, etc but the dealer position did not move the spread. I think the adjustment caused by dealer position is that the midpoint moves.