Direct and Indirect Methods Adopted of Exchange Control

Q.27. Compare the direct and Indirect methods adopted of exchange control.
COMPARISON OF DIRECT & INDIRECT METHODS

These methods of exchange control are known as indirect methods because they do not control the exchange rate but only influence it. On the others hands the direct methods of intervention, restriction and exchange clearing agreements have the effect of directly controlling the exchange rate or the foreign exchange market.

Foreign Exchange

Q.26. How does a country controls its foreign exchange? METHODS OF EXCHANGE CONTROL
Paul Einzig is his book exchange controls has mentioned as many as 41 different methods of exchange control. They can be categorized as
1. Direct Method
2. Indirect Method
They are discussed here as under.
1. DIRECT METHOD
The direct method are further classified as:
Intervention
For an effective control of foreign exchange rates and the foreign exchange market the government usually have a central authority i.e. the Central Bank that has the complete power to control and regulate the foreign exchange market. Under this method any body who either wants to purchase or sell foreign exchange he has to deal with the central bank. All the selling and purchasing transactions of foreign exchange is controlled by the central bank which helps it to adjust demand and supply of foreign exchange according to the need of the country.
Restriction
Exchange restriction is another powerful weapon of exchange control. It refers to the policy by which the government restricts the supply of its currencies coming into the exchange market. It is achieved either by one of the following methods.
i. By centralizing all trading in foreign exchange with central bank of the country.
ii. To prevent the exchange of national currency against foreign currency with the permission of the government.
iii. By making all foreign exchange transactions through the agency of the government.
Exchange Clearing Agreement
Under this method the countries engaged in trade pay to their respective central bank the amounts payable to their respective foreign creditors. The central banks they use the money in off setting the corresponding claims after fixing the value of the foreign currencies by common agreement. The basic principle is to offset international payments so that they have not to be settled through the medium of the foreign exchange market.
2. INDIRECT METHODS
The most commonly used direct method or tool of exchange control is the use of tariff duties and quotes and other quantative restrictions on the volume of international trade. By imposing tariff and quotes the demand for the foreign currency falls down in the case of restricting the imports.
Rate of Interest
Another method of indirect exchange is the rate interest. The rate of exchange is the result of demand and supply of each other currencies arising out of trade and capital movement. A high rate of interest in a country attracts short term capital from other countries that leads to a exchange rate for the currency in terms of other currencies goes up.

OBJECTIVES OF EXCHANGE CONTROL

Q.25. Identify the objectives of exchanges control? OBJECTIVES OF EXCHANGE CONTROL
The following are some of the objectives of exchange control.
To restore Equilibrium
The chief objective of exchange control is to restore equilibrium in its balance of payments. If a country finds that its balance of trade has been persistently unfavourable then it must do something set it right. The balance of payment must ultimately be made to balance.
To Protest Home Industries
Another objective of exchange control is to protect the home industry from unfettered competition from abroad if the people at home are more interested in purchasing foreign goods it will ultimately discourage the local producers to produce more. It will directly affect the National Income and the domestic Gross Product of the country.
To Conserve Foreign Reserves
To conserve foreign reserve is another major objective of exchange control. Every Country needs foreign exchange in order to maintain its stability monetarily in the present age. Also the countries need foreign exchange to make payments for their imports and to pay back their debts obligation. For this a country must have foreign currencies on their hand. If there is a deficiency of the foreign exchange it is going to affect its liquidity position internationally and its credit rating.

Fluctuation in Rate of Exchange

Q.24. What are the causes of fluctuation in the rate of exchange of a country? The rate of exchange fluctuates in the market due to interplay of demand and supply of currency of a particular country. This is the result of some of the following transactions.
BALANCE OF TRADE
The main reason for fluctuations in the rate of exchange of the currency is the value of imports and exports of a country. If the value of imports exceeds the value of exports the rate of exchange will lend downwards and vice versa.
FOREIGN INVESTMENT
Foreign capital investment in a country necessities the payment of dividends or interest to the investing countries. If the capital absorbing country is not in a position to pay such claims in foreign currency, the rate of exchange of that country will definitely fall down.
SERVICE CHARGES
Freight and Insurance expenses also fluctuates the rate of exchange of a country. If the importing country does not have her own shipping companies the transportation charges are to be paid to foreign ships. So the insurance premium in case is to be paid to foreign companies. This creates a demand of foreign currency and if the supply is limited the rate of exchange will fall.

Rate of Exchange

Q.23(A). Define the term rate of exchange. Q.23(B). Explain how the rate of exchange is determined?
RATE OF EXCHANGE
The rate at which the currency or monetary unit of one country can be exchanged with the monetary unit of other country is called the rate of exchange. In other words, the rate at which a unit of one country exchanges for the currency of another is the rate of exchange between them. It may be used to denote the system whereby the trading nations pay off their debts.
Determination of Rate of Exchange
The rate of exchange is determined under the following under the following money systems as:
Under Gold Standard
If two currencies are on gold standard and if their currencies are expressed in terms of gold i.e. a certain weight of gold then the rate of exchange is determined by reference to the gold contents of the two currencies. Suppose Pakistan and United States are on gold standard the rupee being equal to 10 grams of gold and dollar consisting of 50 grams of gold. The rate of exchange between the two countries will be
1 Rupee = 10/50 = 1/5 $ or 0.20 cents
1 Dollar = 50/10 = 5 Rupees.
Thus the rate of exchange is determined in a direct manner by comparison between the gold contents of the two countries. This rate of exchange is also known as Mint Par of Exchange. The actual rate in the foreign exchange market will be slightly different from the mint par to allow for certain expenses. However the actual rate of exchange between currencies will not depart much from the mint par and will move between the two points of export and import of gold. These points are called Gold Points.
Under Paper Currency Method
This phenomenon of exchange rates determination is also called Purchasing Power Parity Theory. No country in the world is rich enough to have a free gold standard. All countries nowadays have paper currencies. According to this theory the rate of exchange between two countries depend upon the relative purchasing powers of their respective currencies. Such will be the rate which will equate the two purchasing powers.
For example if a certain assortment of goods can be purchased for ₤ 1 in Britain and a Similar assortment of goods with Rs. 16 in Pakistan then the purchasing power of ₤ 1 is equal to the purchasing power of Rs. 16. Thus the rate of exchange according to purchasing power parity theory will be
₤ 1 = Rs.16

Renewal and Retirement of a Bill of Exchange

Q.22. What is Renewal and Retirement of a bill of exchange? RENEWAL OF THE BILL
Sometimes the drawee of the bill is unable to pay the bill on its agreed date or time. In such a situation the drawee can apply to issue a new bill subject to certain conditions after the agreement of the drawer. This issuance of a new bill for some new time is known as renewal of the bill. After the issuance of the bill the former is considered to be cancelled. But if the drawee again unables to pay the newly issued bill, the first bill with all its farmer conditions becomes payable and valid.
RETIREMENT OF THE BILL
Sometimes the drawee pays the bill before the agreed date enjoying the rebate which is provided to him for prepayment of the bill. This is known as retirement of the bill. The amount of the rebate depends upon the time left for payment and the amount for which the bill is drawn.

NOTING OF THE BILL

Q.21. What do you mean by Noting of the Bill? NOTING OF THE BILL
When the bill of exchange is dishonoured by the party, the holder of the bill has a legal right to take action against them. In this regard he prepares a type of Public Notice. It is known as Notery Public which is attached along with the bill and is again presented for repayment. Usually this entry of the bill is made on a separate attached with the bill. If the payment is not made i.e. refused again then the date of the presentation the reference of the register with his signature is entered in the notice. This is called Notice of the Bill.
PROTESTING OF THE BILL
Sometimes due to refusal of payment a certificate or document is issued by the notary public containing all the information about the dishonour. This document is known as protest of the bill. It contains
i. Attested copy of the bill.
ii. Signature of Notery Public.
iii. The name of the person whose bill was protested.
iv. The date and amount of the protest.
v. The cause of the protest.
vi. The reply of the drawee.
vii. The reason of absence of the drawee and the accepted.
viii. The reason for the non-payment of the bill.
ix. The certificate stamp of the notery public.