Foreign Exchange Markets Flashcards
Problems companies face when buying or selling goods overseas
may be forced to deal in foreign currency, may be barriers (tariffs, quotas) difference in legal traditions
Two types of international markets
International money & capital markets, which provide the market for credit,
the foreign exchange market which deal in the means of payment
EUR/USD = 1.088
What is the base currency?
What is the terms currency?
EUR = Base Currency
USD = terms currency
1 EUR is worth 1.088 USD
If the base currency is a foreign currency and the terms currency is the domestic currency the quoted is called a…
Direct Quote
If the base currency is the domestic currency and the terms currency is the foreign currency the quoted is called an
Indirect quote
The bid price means that a dealer will..
buy base currency
The ask price =
price dealer will sell base currency
When a country’s currency appreciates (rises in value relative to other currencies)
the country’s goods abroad become more expensive and foreign goods in that country become cheaper (holding domestic prices constant in the two countries).
A depreciating NZ dollar helps…
NZ producers sell more goods, but hurts NZ consumers are foreign goods are more expensive
Cross Currency triangulation
EUR/USD = 1.09
NZD/USD = 0.6
therefore NZD/EUR =…
0.6/1.09
What determines the equilibrium rate
demand and supply of currencies
What are the primary functions of foreign exchange markets? (2)
- Facilitate the transfer of purchasing power from those deal in one currency to those who deal in another
- To facilitate the transfer of exchange risk to professional risk takers
Different types of exchange rates
- Floating exchange rates
- Managed float (rate allowed to move within a band)
- Crawling peg (managed float where XR allowed to appreciate in controlled steps over time)
- Pegged exchange rate (tied to the value of another currency
- Fixed
Market Structure of Foreign Exchange markets
OTC, Hundreds of dealers (mostly banks), transactions may occur at any time, conducted according to principles & ethics
Define Spot & forward markets
Spot = foreign exchanged is sold / purchased on the spot
Forward = Parties agree to exchange a fixed amount of one currency for a fixed amount of a second currency, but the exchange / delivery happens at some forward time
What is the balance of payments
a set of accounts that summarises a countries international balance of trade & the payments to and receipts from foreigners (ex - im)
Current account =
- Balance of trade (exports - imports)
- Investment income
- Transfers (Gifts or grants made to other countries)
Capital account
Financial account - transactions that involve the purchase or sale of assets
the three components of the current account
- Balance of trade - net exchange (exports - imports)
- Investment income (net exchange of services)
- net transfers to & from the country (gifts and donations)
Five factors that may cause changes in demand for exports / imports
- Relative prices,
- barriers to trade,
- resource endowments,
- tastes,
- productivity
Purchasing Power Parity
A concept that says the purchasing power of a currency should be equal in every country
Eurocurrency markets
US dollar denominated deposits held by banks outside of US, a source of working capital for multinational firms
LIBOR
relevant interest rates in eurocurrency markets
London Interbank offered rate
Lower value of NZD =
more exports, increased employment, stimulates the deomestic currency, favoured by businesses, workers & farmers
Higher value of NZD
- Reduces cost of imports,
- Puts pressure of local producers to lower their prices to meet the import competition
- Lowers the domestic cost of living & inflation
- Favoured by domestic consumers
