logo chapter 9 the foreign exchange market. logo contents introduction 1 the functions of the...
TRANSCRIPT
LOGO
Contents
Introduction1
The Functions of the Foreign Exchange Market2
Economic Theories of Exchange Rate Determination 3
Implications for Managers4
LOGOIntroduction
Question: What is the foreign exchange market?
Question: What is the exchange rate?
LOGOImplications for Managers
Firms must understand the influence of exchange rates on the profitability of trade and investment deals
This exchange rate risk can be divided into 1. Transaction exposure2. Translation exposure3. Economic exposure
LOGO
Kurs Bank MandiriMata Uang Symbol Beli Jual
United States Dollar USD 11.818,00 11.982,00
Australian Dollar AUD 10.646,00 10.944,00
Canadian Dollar CAD 10.723,00 10.999,00
Swiss Franc CHF 12.514,00 12.968,00
New Zealand Dollar NZD 9.616,00 9.877,00
Danish Krone DKK 1.987,00 2.159,00
British Pound GBP 19.213,00 19.596,00
Hongkong Dollar HKD 1.482,00 1.591,00
Japanese Yen JPY 109,11 112,78
Singapore Dollar SGD 9.303,00 9.554,00
EURO Spot Rate EUR 15.251,00 15.584,00
Saudi Arabian Real SAR 3.041,00 3.313,00
Swedish Krona SEK 1.616,00 1.727,00
Norwegian Krone NOK 1.769,00 1.958,00
China Yuan CNY 1.893,00 1.984,00
LOGOThe Functions of
the Foreign Exchange Market
Question: What is the purpose of the foreign exchange market?
The foreign exchange market1. enables the conversion of the currency of
one country into the currency of another2. provides some insurance against foreign
exchange risk (the adverse consequences of unpredictable changes in exchange rates)
LOGOInsuring Against Foreign Exchange Risk
The foreign exchange market can be used to provide insurance to protect against foreign exchange risk (the possibility that unpredicted changes in future exchange rates will have adverse consequences for the firm)
A firm that protects itself against foreign exchange risk is hedging
LOGOEconomic Theories of Exchange Rate Determination
Question: What factors are important to future exchange rates?
Three factors that have an important impact on future exchange rate movements are
1. a country’s price inflation
2. a country’s interest rate
3. market psychology
LOGOPrices and Exchange Rates
Question: How are prices related to exchange rate movements?
To understand how prices and exchange rates are linked, we need to understand the law of one price, and the theory of purchasing power parity
LOGOPrices and Exchange Rates
The law of one price states that in competitive markets free of transportation costs and barriers to trade, identical products sold in different countries must sell for the same price when their price is expressed in terms of the same currency
Purchasing power parity theory argues that given relatively efficient markets (markets in which few impediments to international trade and investment exist) the price of a “basket of goods” should be roughly equivalent in each country
LOGOCase Study
Big Mac price and the exchange rate: An application of purchasing power parity.Sumber: The Economist
LOGOInterest Rates and Exchange Rates
Question: How do interest rates affect exchange rates?
The Fisher Effect states that a country’s nominal interest rate (i) is the sum of the required real rate of interest (r ) and the expected rate of inflation over the period for which the funds are to be lent (l ) In other words, i = r + I
So, if the real interest rate is the same everywhere, any difference in interest rates between countries reflects differing expectations about inflation rates
LOGOInterest Rates and Exchange Rates
The International Fisher Effect suggests that for any two countries, the spot exchange rate should change in an equal amount but in the opposite direction to the difference in nominal interest rates between the two countries
In other words: (S1 - S2) / S2 x 100 = i $ - i ¥ where i $ and i ¥ are the respective nominal interest
rates in two countries (in this case the US and Japan), S1 is the spot exchange rate at the beginning of the period and S2 is the spot exchange rate at the end of the period
LOGOSummary
Relative monetary growth, relative inflation rates, and nominal interest rate differentials are all moderately good predictors of long-run changes in exchange rates, but poor predictors of short term changes
So, international businesses should pay attention to countries’ differing monetary growth, inflation, and interest rates
LOGOImplications for Managers
Question: What does the foreign exchange market
mean for international firms?
LOGOIs Europe an Optimal Currency Zone?
Price Transparency
Promotes TradeCurrency Stability and TransparencyPromotes Competition
LOGO
UK Entry the Euro
Lost TradeLower Foreign InvestmentWeaker Financial MarketReduced CompetitivenessConvergenceEuro Policy and Politics
LOGO
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