2. FX market Flashcards
What are 2 transaction types in FX market?
- Spot transactions involve the near-immediate exchange of bank deposits, completed at the spot rate.
- Forward transactions involve exchanges at some future date, completed at the forward rate.
What happens to the prices of domestic and foreign goods if domestic currency appreciates?
Domestic goods’ prices increases while foreign goods prices decrease
How Is Foreign Exchange Traded?
Involve buying / selling bank deposits denominated in different currencies.
Trades involve transactions in excess of $1 million.
Typical consumers buy foreign currencies from retail dealers, such as American Express.
What is the law of one price?
The Law of One Price states that the price of an identical good will be the same throughout the world, regardless of which country produces it.
What PPP says?
What happens if domestic price level increases by 10%?
The theory of P P P states that exchange rates between two currencies will adjust to reflect changes in price levels.
If domestic price level increases by 10%, domestic currency goes down by 10%
What are the problems with PPP?
All goods are not identical in both countries (i.e., Toyota versus Chevy)
Many goods and services are not traded (e.g., haircuts and land)
How basic principle works for domain/foreign goods?
Basic Principle: If a factor increases demand for domestic
goods relative to foreign goods, the exchange rate goes up
What are 4 major factors of basic principle?
relative price levels (a rise in relative price levels cause a country’s currency to depreciate)
tariffs and quotas (increasing trade barriers causes a country’s currency to appreciate)
preferences for domestic versus foreign goods (increased demand for a country’s good causes its currency to appreciate; increased demand for imports causes the domestic currency to depreciate.)
productivity (if a country is more productive relative to another, its currency appreciates.)
