A Macro Homework Question: Answer in the Style of…

by on October 22, 2012 at 7:33 am in Economics, Education, Games | Permalink

I just returned from a trip to South Korea. Today, to prepare for the next trip, I took my jacket to the dry cleaners. Turning the pockets out, I discovered a substantial number of South Korean won. The transaction costs of exchanging the won for dollars are now very high. I will keep the won as souvenirs.

Question: What are the consequences of my decision for the South Korean economy? Answer in the style of a well-known economist. What would Scott Sumner say? (almost too easy!) What about Keynes? Krugman? Cowen? Prescott?

South Korea - Currency

Tyler Cowen October 22, 2012 at 7:37 am

Cowen would say you should then apply your answer to the theory of remittances…!

Luke G. October 22, 2012 at 8:13 am

Nice try, but your reply isn’t really “Cowenish” enough. I award you third place.

Rahul October 22, 2012 at 11:23 am

T. Cowen:

Why didn’t you go to an ethnic dry-cleaner?

MC October 23, 2012 at 5:14 pm

You just out-Cowened Cowen!!!!

Andrew' October 22, 2012 at 8:16 am

I assess your assertion to not exchange them to be non-credible.

John B. Chilton October 22, 2012 at 8:51 am

Andrew’ has the right answer. Alex surely will find a South Korean grad student or academic advisor to exchange with at virtually zero cost to both, the sooner the better. The won have not been permanently withdrawn.

Stuart October 22, 2012 at 8:59 am

Denying the premise of a thought experiment reveals absence of thought.

Andrew' October 22, 2012 at 10:01 am

Fama: It’s not a real Won.

These are the jokes, folks.

Andrew' October 22, 2012 at 10:03 am

Krugman: What kind of misanthrope would hoard cash. Evil or ignorant? Nay, overly charitable reader, BOTH!!!

John Maynard Hoover October 22, 2012 at 8:54 am

Most notions of Korean capital flight reside not on observed facts, patiently gathered over the course of many years, such that their accretion or accumulation can, like leaves or snow, impress upon the onlooker sufficient and satisfactory evidence that the season is turning or the cycle has reached its zenith or apogee, but on so many theories constructed, so to speak, in mental workshops whose craftsmen are in such woeful need of tempered instruments with which to work, let alone flawless material with which to fashion their output, that it is not unreasonable to dismiss them in much the same way as a rent-earning landowner might dismiss a ramshackle bothy as beneath his consideration.

These conjectures, not least those of Marshall and Krugman, suffer from want of what I shall term experience. It became apparent after Versailles that these two minds were attached dogmatically to notions that operated smoothly under conditions prevalent in the twentieth century, but that by this juncture they were listening to echoes of echoes, much as a Benedictine monk might listen to the faint pealing of evensong bells across an Alpine landscape many minutes after the cords had last been pulled.

This want of experience, this lack of facts gathered sur le terrain, this absence of captains of industry cross examined, this failure to inquire of the habits of the leisured classes, it is my task in the folllowing inquiry to correct, though nobody but me is likely to understand what it all means.

Foster Boondoggle October 22, 2012 at 10:34 am

+1

Andrew' October 22, 2012 at 2:53 pm

Krugman: “That’s the finest beating I ever took.”

Brian Donohue October 22, 2012 at 6:09 pm

Brilliant!

Tim Harford October 22, 2012 at 9:24 am

If the notes are high denomination, replacement costs are trivial – less than one per cent. On the assumption that Seoul was happy with its monetary base beforehand, it will print more money to make up for the notes Alex has withdrawn from circulation.

economist1 October 22, 2012 at 4:31 pm

This is close to a Sumner answer I think

dearieme October 22, 2012 at 9:29 am

Mr Cowen would recommend you eat them.

LOL October 22, 2012 at 9:37 am

First place!

Andreas Moser October 22, 2012 at 9:45 am

Your decision has the same effect on the South Korean economy as the guy in Seoul who dropped his wallet in the river. This natural rate of loss is already factored into monetary decisions, probably based on some sophisticated computer model which cost more than all the banknotes that have been lost.

bath October 22, 2012 at 12:12 pm

e^x

Jeromy October 22, 2012 at 9:46 am

Are the implications the same if the US goes to a dollar coin and we have whole lot more money just sitting in coin jars everywhere?

Steve Reilly October 22, 2012 at 9:52 am

Paul Krugman:

“It is not easy to convince a non-economist that when [economists] hoard [thousand won] bills in [Virginia], this is a capital outflow from [the U.S.]‘s point of view — and that it has the same effects on the [South Korean] economy as if that money was put in a [Seoul] bank.”

http://web.mit.edu/krugman/www/ricardo.htm

(Although I guess he’d add that in a liquidity trap everything works in reverse.)

David Silver October 22, 2012 at 9:55 am

Sumner: By reducing the money supply, Alex is also reducing South Korean wages and causing low marginal productivity South Koreans to go unemployed.

Krugman: This is the type of idiotic austerity that only a Republican would push onto a country.

Keynes: The reduction in money supply is negligible compared to the fiscal stimulus South Korean state universities provided by sponsoring Alex’s trip to the country.

Karl Smith: Just hold on a sec while I model this in Stata….

Ben Bernanke: The FOMC stands prepared to work with our counterparts at BOK to take a highly accommodative stance vis-a-vis the recent deterioration in M0.

Tyler Cowen: Let’s consider this from the standpoint of incentives. There may be a Korean restaurant in Annandale that would prefer won to dollars, and thus Alex’s won may in fact be worth more in Fairfax County than in Seoul. The answer is not clear to me.

dave smith October 22, 2012 at 9:58 am

+1

Alex Tabarrok October 22, 2012 at 10:31 am

Silver’s Tyler is genius on many different levels.

Neto Sepulveda October 22, 2012 at 10:50 am

One of the best comments :)

Steven Kopits October 22, 2012 at 11:10 am

Mr. Silver strikes gold!

To October 23, 2012 at 4:15 am

The sumner version is way off, though.

Jon "Tyler Cowen" Rodney October 22, 2012 at 9:57 am

The thousand-Won bill is a useful tool to have in the United States. Search for Korean restaurants in suburban strip malls; if they will accept Won as payment, that is a good sign for the authenticity of your meal.

JohnnyO October 22, 2012 at 10:10 am

+1

Karl Marx October 22, 2012 at 10:21 am

As exchange value forms the substance of money, and exchange value is wealth. You have thusly not increased your wealth by retaining this banknote, as you profess it to have minimal exchange value (due to the transaction costs). Of course, as I have said elsewhere, capitalist production does not exist at all without foreign commerce. Since you now retain this banknote, and remove it from commerce, you marginally reduce the amount of capitalist production and wealth in the world.

I thank you, Comrade!

/sarcasm

Yog Sothoth October 22, 2012 at 10:36 am

+1

Jason October 22, 2012 at 10:23 am

I once came across a 100 won coin by accident. I don’t know how I found it. But, as it turns out, parking meters accept the coin (at least in New Haven, CT), and valued the coin as a U.S. nickel.

Jacob October 22, 2012 at 3:50 pm

Transaction costs!!! It was worth a dime!

Yog Sothoth (Axel Leijonhufvud) October 22, 2012 at 10:26 am

To maximize hipster street cred, I’m going retro-obscure as Axel Leijonhufvud.

The decision to hoard creates excess demand in the market for money and excess supplies in the market for commodities and bonds. Given Keynesian assumptions on the relative adjustment velocities of interest rates, prices and incomes, an unemployment equilibrium may be realized as follows. First, interest rates rise to eliminate excess demand along the money/bonds margin. Then incomes fall, eliminating excess supplies in the markets for commodities and bonds. All markets then persist with income below the economy’s non-inflationary potential, yet without the downward pressure on prices that might otherwise be counted upon to drive economic recovery.

Brad October 22, 2012 at 10:27 am

I think Tim Harford pretty much has the right answer. Korean monetary authorities should know that a certain amount of currency is going to go out of circulation due to tourists. They have probably already accounted for Alex’s actions.

Paul Krugmann October 22, 2012 at 11:36 am

Some believe that the reduction in the South Korean monetary base and South Korea’s subsequent lack of a financial meltdown is a refutation of Keynesian principles. Fortunately, I have discovered several egregious flaws in the original post which column space does not permit me to describe. Nevertheless, these flaws completely vindicate the points I’ve been making over the years, as any first year economics student should be able to see.

Karl Marx Redux October 22, 2012 at 11:55 am

The banknote’s exchange value is affected by the bureaucratic-legislative disharmony between state jurisdictions, owing to the residual institutions of feudalism and their relative usefulness for domestic capitalists to protect themselves against larger foreign capitalists. However, the use value of this note is unaffected as such since it is always particular to the circumstances under which its current holder labors. At the world-historical level, the banknote is a vestige of capitalism’s superstructure; once the workers establish their ownership of the means of production, it will only have use value of limited consequence.

Euripides October 22, 2012 at 12:27 pm

Assume this was a large amount of won, so the proper recording is important. International Finance perspective: Where would it go in the balance of payments account? Unilateral transfers.
Now what does SK do with the dollars? They could buy US goods (SK imports increase) or invest in US assets.

cmprostreet October 22, 2012 at 12:37 pm

Bryan Caplan: What are the moral implications of our borders being more open to foreign currency than they are to foreign people?

Steve Landsburg: By removing these claims to resources from the Korean economy, the Koreans are left wealthier in exactly the same way as Scrooge’s neighbors are left wealthier by his cash hoarding. Furthermore, since Alex gets some enjoyment out of simply having this foreign cash as a memento, the Korean government actually managed to create wealth by having printed it. The implication is that countries with unique or aesthetically pleasing currencies have more potential to truly create value by printing money, so long as they have tourists who wish to hold onto that cash forever.

Garrett Jones: This leaves less cash available to pay back Korean bondholders, though what cash remains is slightly more valuable. Since this is unlikely to be a large enough outflow to cause default, the bondholders are slightly better off for this.

Brad DeLong: Why can’t we have better pockets? Also, Krugman is totally correct.

Paul Krugman: We are in a liquidity trap, because people like Alex prevent monetary policy from being effective.

Alan Blinder: For reasons I won’t adequately explain, this requires US Government spending to offset the obvious problems that I won’t delineate here.

Saturos October 23, 2012 at 1:50 am

Now this is really the best one.

Baphomet October 22, 2012 at 12:44 pm

Is it a tweed jacket? Then it should never be dry-cleaned, as this will remove the oils in the fabric. It should only be brushed and aired.

Andrew' October 22, 2012 at 2:32 pm

Sumner: If Tabarrok does less, Cowen will do more. I always thought this was the standard view.

mkt October 22, 2012 at 3:46 pm

McCloskey put a very similar question onto a final exam (micro though, not macro). However he (McCloskey was still Donald in those days) didn’t add the twist that the answers be “in the style of”.

Tyler Cowden October 22, 2012 at 4:37 pm

Best banknote in Korea: the 1977 special edition Jong il Sun 250 won.

This is neither the worst nor the best souvenir I have accidentally kept.

simple.machine October 22, 2012 at 5:56 pm

Charles de Gaulle: Those South Korean Imperialists! We will never acquiesce to this exorbitant privelege. Btw, I took all your gold.

Pharcyde October 22, 2012 at 8:11 pm

If I were Alex, if I were Alex Tabarrok
I’d make sure all the money got spent
Onnnnnnnn, good things
I wouldn’t have no Won in my pocket
I’d rock it rock it I’d shock it
I would not jock the fact that there are
Rich people in the world because yo I got a girl
And she needs new clothes and I need new sneakers
And that’s all I know

If I were Alex, if I were Alex Tabarrok
If I were Alex (What would you do? )
I would not carry, oh no spare Won
I would just rearrange, the whole government structure
Cause there seems to be something that’s
Messing with the flucture of the money (what? )
It’s not coming to me

So now it’s time for me to tell my homeyTyler C
“So i’m, looking at my Won and I do not have a buck
Damn I’m out of luck, damn I’m feeling stuck”

Steve October 23, 2012 at 3:17 am

Cochrane: The moment Alex’s plane left Seoul, Korean economy adjusted to the smaller amount of wons. Only those who can’t solve third order differential equations could think that less wons in the economy would have any impact whatsoever.

Sumner: Did the world go crazy around 2008? Am I the only one here seeing that for each won that Alex brought to USA, the Bank of Korea must immediately print 2 billion new ones? With the commitment to do it every day until the end of the world.
PS. I wonder what is the average temperature in Brazil?
PPS. They actually serve decent pasta in Denmark.

Cowen: You think it’s one way, but it’s the other way. Or is it? A Hansonian take would be that wons are not really about the money. Also Ezra has a good take on this.

Sargent: Uhhh… ummm… I thought you would ask about Europe.

Mike Brown October 23, 2012 at 10:54 am

Alex has increased the Korean’s trade surplus by purchasing with his dollar a product of their labor. As he has not attempted to re-exchange it, granting some profit to their financial intermediaries, they are left simply with the value added between the cost of printing the bill and its exchange value in dollars. It is also a valuable source of foreign exchange, as Korea has gained foreign currency without the need to sterilize the transaction through central bank intervention.

Saturos October 23, 2012 at 12:12 pm

Other way around. See Krugman, quoted by Steve Reilly above.

Mike Brown October 23, 2012 at 1:53 pm

Isn’t that what I said? Current account surplus on Koreas part = Capital account deficit on ours, etc… I’m genuinely interested in a blow by blow.

Saturos October 24, 2012 at 3:28 am

No, Alex exchanged dollars for won, allowing Koreans to buy American goods. His won entitles him to some Korean goods in return, but he chose to hoard, which is equivalent to extending credit, i.e. a capital inflow for Korea to balance their current outflow. So Korea has a lower current balance, cancelled with a higher capital account balance. America has higher current account balance, lower capital account.

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