Week 2 Flashcards
How do we work out the appreciation/depreciation of a currency?
To work out the appreciation /depreciation of a unity currency with a quoted currency we take the (new price/old price) - 1. If we only have the percentage appreciation or depreciation we can work out the quoted currencies appreciation/depreciation by adding the percentage to the unit currency (1.00 from 1.00/1.00 to 1.20/1.00).
We can flip this equation to get the appreciation/depreciation of the quoted currency.
How do we do a bid-ask cross rate calculation?
Use algebra, treating the currencies as terms that can be eliminated and added.
If we want the bid rate for HC/FC and have the bid and ask rate for FC/HC what must we do? What about if we wanted the ask rate?
We must use 1/(FC/HC), using the ask rate for FC/HC. If we wanted the ask rate we should instead use 1/(FC/HC) using the bid rate for FC/HC.
What are the demand and supply curves like for currencies? What increases these? What is special about where they meet?
Demand is downward sloping, meaning that demand goes up as cost goes down. Demand comes from international trade and capital flows between the two currencies. Supply is upward sloping, the supply of money to the other currency pair goes up as the value of the home currency goes up. Supply is driven by demand for the foreign currency, supply of home currency for sale, and purchase of foreign products.
Where the demand and supply lines meet is the equilibrium, if the actual price is higher than this then supply will be greater than demand (making the home currency overvalued), this will push the price back to equilibrium.
What will change the equilibrium exchange rate?
Demand increase in the primary currency but with supply unchanged will increase the equilibrium rate, demand decrease with same supply will decrease the equilibrium rate. Supply increase(increasing demand for the other currency) will decrease the equilibrium rate. Supply decrease (decrease in demand for the other currency) will increase the equilibrium rate.
Also changes in macroeconomic factors like, the interest rate, inflation, income levels, government regulations, or expectations.
What are the trade related factors that influence exchange rates? How do they work?
Inflation differentials, income differentials, and government trade restrictions. These all affect the demand for foreign goods, or foreign demand of home goods. This will affect the demand of the home currency for foreign currency and supply of the foreign currency, changing the exchange rate.
What are the financial factors that influence exchange rates? How do they work?
Interest rate differential, capital flow restrictions, and exchange rate expectations. These all will either increase home demand for foreign securities, or increase foreign demand for home securities. This in turn will affect the demand for the foreign currency and supply of the foreign currency, changing the exchange rate.
If we expect a currency to depreciate should we borrow that currency or buy it? What if it was going to appreciate?
We should borrow them and sell them for the original currency, when we pay it back it will be cheaper for us to buy our borrowed currency for repayment. If it was going to appreciate we should instead borrow in the depreciating currency and use that to buy the appreciating currency.
What is a carry trade?
A carry trade occurs when we borrow in a currency with a low interest rate and invest in a currency with a high interest rate.
