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Boffy
What is Money?
Money is anything that is accepted as a form of payment and in the modern world this typically currency. Today's currency is essentially created by governments, and backed by their ability to tax. Thus, money today derives from both the legitimacy of the state and from the revenues of the state. Money is typically issued by a central bank, and it has considerable leeway with respect to how much money it issues. The value of money is determined by the supply of and the demand for money.
The supply of money is controlled, as we've said, by the central bank. Demand for money is based on the need for that currency to make transactions. So demand for Japanese yen is in part related to how much yen people need to buy goods and services from Japan. The same is true of all currencies, including the U.S. dollar
Slide Two: Interest Rate Parity
The concept of interest rate parity is important when analyzing the exposure that a company has to foreign exchange rate risk. The theory is essentially that there is no difference in borrowing in one currency vs. borrowing in another. Thus, a country that has high...
The investor, therefore, should be neutral between investing at a low rate in a country whose currency is expected to hold its value, and at a high rate in a country whose currency is expected to depreciate.
Slide Three: The Puerto Rico Context
Puerto Rico, as a commonwealth territory of the United States, uses the U.S. dollar as its currency. There are advantages and disadvantages to this. A disadvantage is that the USD is not a local currency, and therefore is subject monetary policy that relates to the economy of the United States. The needs of Puerto Rico are not usually taken into consideration when the U.S. Federal Reserve bank sets its monetary policy. This lack of control is a disadvantage in macroeconomic terms, because monetary policy is a lever that can affect the economy of a country. There is a fair degree of separation between the economy of Puerto Rico and the economy of the United States
The primary advantage of using the U.S. dollar, of course, is that there is no exchange rate risk when dealing with American companies. This is an advantage…
References:
CIA World Factbook: Puerto Rico. (2013). Retrieved May 3, 2013 from https://www.cia.gov/library/publications/the-world-factbook/geos/rq.html
Investopedia (2013). What is money. Investopedia. Retrieved May 3, 2013 from http://www.investopedia.com/articles/basics/03/061303.asp
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