Chapter 9 Summary Flashcards
Explain the importance of the international capital market.
The international capital market is meant to (1) expand the supply of capital for borrowers, (2) lower interest rates for borrowers, and (3) lower risk for lenders.
Growth in the international capital market is due mainly to (1) advances in information technology, (2) deregulation of capital markets, and (3) innovation in financial instruments.
London, New York, and Tokyo are the world’s most important financial centers. Offshore financial centers handle less business than the world’s most important financial centers but have few regulations and few, if any, taxes.
Describe the main components of the international capital market.
The international bond market consists of all bonds sold by issuers outside their own countries. It is growing as investors in developed markets search for higher rates from borrowers in emerging markets, and vice versa.
The international equity market consists of all stocks bought and sold outside the home country of the issuing company. Factors driving its growth are (1) privatization, (2) increased activity by companies in emerging nations, (3) global reach of investment banks, and (4) global electronic trading.
The Eurocurrency market consists of all the world’s currencies banked outside their countries of origin. Its appeal is a lack of government regulation and a lower cost of borrowing.
Outline the functions of the foreign exchange market.
One function is to convert one currency into another for individuals, companies, and governments.
Second, it is used as a hedging device to insure against adverse changes in exchange rates.
Third, it is used to earn a profit from currency arbitrage or other interest-paying security in different markets.
Fourth, it is used to speculate about a change in the value of a currency and thereby earn a profit.
Explain the different types of currency quotes and exchange rates.
An exchange-rate quote between currency A and currency B (A/B) of 10/1 means that it takes 10 units of currency A to buy 1 unit of currency B (this is a direct quote of currency A and an indirect quote of currency B).
Exchange rates can also be found using two currencies’ exchange rates with a common currency, which results in a cross rate.
An exchange rate that requires delivery of a traded currency within two business days is called a spot rate.
A forward rate is the rate at which two parties agree to exchange currencies on aspecified future date.
Describe the instruments and institutions of the foreign exchange market.
The interbank market is where the world’s largest banks locate and exchange currencies for companies. Securities exchanges are physical locations at which currency futures and options are bought and sold (in smaller amounts than those traded in the interbank market).
Goals of currency restriction include (1) preserve hard currency reserves for repaying debts owed to other nations, (2) preserve hard currency to pay for needed imports or to finance a trade deficit, (3) protect a currency from speculators, and (4) keep badly needed currency from being invested abroad.
Instruments used to restrict currencies include (1) government approval for currency exchange, (2) imposed import licenses, (3) a system of multiple exchange rates, and (4) imposed quantity restrictions.
