Understanding Central Banks, Monetary Policy, and International Trade
CENTRAL BANK of Spain and the EU
European System of Central Banks (ESCB)
The central bank is an institution responsible for managing a country’s currency, money supply, and interest rates. It monitors and regulates the amount of money in circulation. In Spain, the central bank is the Bank of Spain.
The European Central Bank (ECB) is the central bank for the eurozone, responsible for monetary policy in the European Union (EU). The Bank of Spain is part of the ESCB, which comprises all EU national central banks.
Functions of the Bank of Spain:
- Manage foreign exchange reserves
- Monitor credit institutions
- Promote financial system operations
- Issue coins
- Act as the state’s bank
- Provide economic advice
Roles of ESCB entities:
- Define and implement monetary policy
- Conduct foreign exchange operations
- Issue banknotes
Monetary Policy and Money Supply
Monetary policy refers to actions undertaken by a central bank to manipulate the money supply and credit conditions to stimulate or restrain economic activity. Monetary policy can be expansionary (increasing money supply) or restrictive (decreasing money supply).
Since 1999, the ECB has managed the single monetary policy for the eurozone, aiming to maintain price stability.
Instruments of Monetary Policy:
- Open market operations
- Standing facilities
- Reserve requirements
Monetary Policy and Inflation
Monetary policy is used to control inflation. Increasing the money supply lowers interest rates, encouraging borrowing, consumption, and investment, which can lead to inflation. Conversely, decreasing the money supply can curb inflation.
Inflation Theories:
- Keynesian theory: Inflation is caused by excessive money supply, affecting prices and altering production and quantity.
- Classical theory: Increasing money supply leads to increased spending, raising demand and prices.
Effects of Inflation:
- Expected inflation: Institutions adapt, leading to cost-of-living adjustments (COLAs) and menu cost increases.
- Unexpected inflation: Can have negative distributional effects and disrupt economic activity.
INTERNATIONAL TRADE
International trade involves the exchange of goods and services between countries. It is based on the principle of comparative advantage, where countries specialize in producing goods and services they are most efficient at.
Trade Protectionism
Protectionism refers to government policies that restrict international trade to protect domestic industries. Examples include:
- Tariffs: Taxes on imported goods.
- Quotas: Limits on the quantity of imported goods.
- Export subsidies: Financial assistance to domestic producers to make their exports more competitive.
- Non-tariff barriers: Regulations that discriminate against foreign goods.
Free Trade vs. Protectionism
Free trade advocates for minimal trade barriers, promoting specialization and economic efficiency. Protectionism aims to shield domestic industries from foreign competition.
Globalization
Globalization refers to the increasing interconnectedness of economies worldwide, raising debates between free trade and protectionism.
FORMS OF INTERNATIONAL BUSINESS RELATIONS
Globalized Measures:
- General Agreement on Tariffs and Trade (GATT): A multilateral agreement promoting free trade.
- World Trade Organization (WTO): An intergovernmental organization that regulates and facilitates international trade.
Regional Blocs:
Groups of countries that establish agreements to reduce trade barriers among themselves. Examples include free trade areas, customs unions, and common markets.
THE EUROPEAN UNION
The European Union (EU) was founded in 1957 and has grown to 27 member states. The Maastricht Treaty (1991) established the concept of European citizenship and laid the groundwork for further integration.
Major EU Institutions:
- European Commission: The executive body responsible for proposing and implementing policies.
- Council of the European Union: The decision-making body representing member states.
- European Parliament: The directly elected legislative body.
- Court of Justice of the European Union: The judicial body ensuring the uniform application of EU law.
Key Policy Areas:
- Agriculture: The Common Agricultural Policy (CAP) aims to support farmers and rural development.
- Regional and Social Policy: The EU provides funds to promote economic and social cohesion among member states.
EU Funds:
- European Social Fund (ESF): Supports employment and social inclusion.
- European Regional Development Fund (ERDF): Finances development projects in less developed regions.
- European Agricultural Guidance and Guarantee Fund (EAGGF): Supports agricultural development.
BALANCE OF PAYMENTS
The balance of payments is a record of all economic transactions between a country and the rest of the world over a specific period. It includes payments for goods, services, income, and financial assets.
Components of the Balance of Payments:
- Current Account: Records trade in goods and services, income flows, and current transfers.
- Capital Account: Tracks capital transfers and the acquisition and disposal of non-financial assets.
- Financial Account: Records investments, loans, and other financial transactions between residents and non-residents.
The balance of payments can be in surplus (more inflows than outflows), deficit (more outflows than inflows), or balanced.