Question

2. For years, Swiss Franc is over-valued and Turkish lira is undervalued and both countries are not happy with this. why?

3. one of the important variables in an open economy is net foreign investment in the form of direct investment and portfolio investment. Recently the share of foreigners in the stock market is about 50% and there is no possibilty of net capital outflow. is this good for a country with savings lower than investments?

Answer 1

2. The value of any currency is decided through market forces of dmeand and supply in the foreign dxchange market. However, other factors also contribute to the valuation of any currency like monetary policy adopted by central bank of a country, economic and policitical stability in the economy that decides the confidence of investors in the currency. The reason for over valuation of swiss franc is the stability of swiss government and it's financial system. The demand for franc soared up due to investor's confidence to seek hold of a portfolio in franc due to loss in confidence in euro and dollar due to european debt crisis and loose monetary policy by US Federal bank, respectively. However, overvaluation of franc means that exports are more expensive and therefore, it peads to lowered exports. Imports increase because of there attractiveness lowering local investment and job opportunities in the economy.

The turkish lira is undervalued because of the political crisis going in the Turkey that made investors, both local and foreign to lose confidence in the currency. This led to liquidation of real assets and reduced demand for turkish lira leading to it's undervaluation. Undervaluation, though may improve balance of payment for a country, it also leads to decreased efficiency of local industry due lack of competitiveness from foreign goods. It also leads to inflation in the economy due to expensive imports and worsens the situation in the import dependent economy like turkey.