Let’s say you want to gauge the effectiveness of a nation’s monetary policy in relation to the exchange rates of particular currencies.
A way of achieving this is to take into account the amount of monetary supplies that are about to go into circulation. Since it can be laborious (and also, there’s a big chance of inaccurate findings) to determine the supplies according to your own reports, bringing in an economic indicator is a wise tactic.
In such a case, the particular economic indicator to turn to is the Monetary Model.
What Is the Monetary Model?
The Monetary Model is an economic indicator that highlights the role of a country’s monetary policy in the establishment of currency exchange rates; it draws light on the monetary supplies of current trading accounts and how they can impact the foreign exchange market. To have a clue as to why rates are too high or too low, and why they can sometimes rise and drop unexpectedly, grasping the concept behind the theory is a technique.
The Monetary Model is just like many economic indicators; although it provides valuable information, it presents conflicting aspects. For instance, it goes against a statement of another economic indicator, the Asset Market Model; while the Monetary Model revolves around the reports on current trading accounts, the Asset Market Model gives importance to capital trading accounts.
Particularly, the Monetary Model is based on 2 things: (1) the need for perfect market and economic conditions, and (2) the assumption that comes from economic theorists.
According to different economic theorists, the Monetary Model comes with a downside; it has certain restrictions that may not make it suitable for just any market condition. One restriction, in particular, is that it lacks consideration for incoming trade flows.
In a way, the Monetary Model vouches for the immediate depreciation of a currency due to a potential raise in inflation rates. While this supposition is true, a reverse situation is also true; this negates the whole arrangement, and gives the economic indicator a questionable credibility.
Due to such a limitation, the Monetary Model can put a trader at risk. He may have a report of monetary supplies, but not in a generic perspective; it means that, although he can analyze market and economic conditions, there may be integral components that he remains uninformed of.
So, Is the Monetary Model a Good Indicator?
Overall, yes, the Monetary Model is a good indicator; it is reliable and can yield profitable results. It can trigger inaccurate predictions due to incorrect employment, but just like most technical analysis tools, its effectiveness can be fine-tuned with brilliant trading strategies and flawless money management skills. And, if another set of indicators enter the picture, there’s more than 50% chance of establishing strong positions in the forex market.