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International Business – The Foreign Exchange Market Chapter 9 notes

Appreciating or Depreciating currencies affect sales, survivability and or / profitability.
Foreign Exchange Market
is a market for converting the currency of one country into that of another country.
Exchange Rate
is the rate at which one currency is converted into another
Without foreign exchange market, international trade and international investment on the scale that we see today would be impossible
The foreign exchange market is the lubricant that enables companies based in countries that use different currencies to trade with each other
One function of the foreign exchange market is to provide some insurance against the risks that arise from such volatile changes in the exchange rates, commonly referred to as foreign exchange risk.
Foreign exchange Market serves two main functions:
1. To convert the currency of one country into the currency of another.
2. Provide some insurance against foreign exchange risk
International Business have four main uses of foreign exchanges
1. The payments a company receives for its exports.
2. Must pay a foreign company for its products or services in its country’s currency.
3. Use foreign exchange markets when they have spare case that they wish to invest for short terms in money markets
Currency Speculation
Involves the short-term movement of funds from another currency to another in hopes of profiting from shifts in exchange rates.
Carry trade
involves borrowing in one currency where interest rates are low, and then using the proceeds to invest in another currency where interests are high.
Hedging
The process of insuring one’s business against foreign exchange risk by using forward exchanges or currency swaps.
Spot exchange rate
rate at which a foreign exchange dealer converts one currency into another currency on a particular day
Spot exchanges can be tricky because if the company is hoping to pay off another in thirty days (they have to pay in the currency of the country) the exchange rate might go up, which can be problematic and may cause the company to lose more money.
Forward exchange
occurs when two parties agree to exchange currencies and execute the deal at some specific date in the future.
Forward Exchange Rates
Are quoted for 30 days, 90 days etc
The Law of one price
In a competitive market, free of transportation costs and barriers to trade, identical products sold in different countries must sell for the same wprice when their price is expressed in terms of the same currency
Efficient Market
A market which as no impediments of` the free flow of goods and services, such as trade barriers and prices reflect all available public information
The growth rate of a country’s money supply determines its likely future inflation rate
The Fisher effect
states that a country’s nominal interest rate is the sum of the required “real” rate of interest
Foreign Exchange risk
The risk that changes in exchange rates that will hurt the profitability of a business deal
Currency Speculation
The short term movement from one currency to another in order to profit from the shift in exchange rates
Carry Trade
Involves borrowing in one currency where interest rates are low and then using the proceeds to invest in another currency where interest rates are high
Spot exchange rates
The exchange rate at which a foreign exchange dealer converts it into another country. what the exchange rate is today,
Forward Exchange
When two parties agree to exchange currency and execute the deal at some specific date in the future. 30, 90, 120 days
Currency Swap
Simultaneous purchase and sale of a given amount of foreign exchange for two different value dates
Arbitrage
The purchase of securities in one market for immediate resale in another to profit from a price discrepancy.
The law of one price
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 the same currency.
Efficient Market
Has few impediments to international trade and investment exist
Inefficient Market
one in which prices do not reflect all available information
Fisher effect
An economic theory proposed by economist Irving Fisher that describes the relationship between inflation and both real and nominal interest rates. The Fisher effect states that the real interest rate equals the nominal interest rate minus the expected inflation rate. Therefore, real interest rates fall as inflation increases, unless nominal rates increase at the same rate as inflation.
nominal interest rates in each country equal the required real rate of interest and the expected rate of inflation over the period of time for which the funds are to be lent
international fisher effect
An economic theory proposed by economist Irving Fisher that describes the relationship between inflation and both real and nominal interest rates. The Fisher effect states that the real interest rate equals the nominal interest rate minus the expected inflation rate. Therefore, real interest rates fall as inflation increases, unless nominal rates increase at the same rate as inflation.
on an international level.
Bandwagon Effect
when traders move like a herd, all in the same direction and at the same time, in response to each others’ perceived actions
Freely convertible currency
When government allows residents and nonresidents to purchase freely of foreign currencies with the domestic currency
Non convertible Currency
where non residents and residents are prohibited from converting their holding of that currency into another currency
Capital flight
when residents of a country convert domestic currency into a foreign currency when things are not going well with the domestic country.

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