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What are the two functions of the foreign exchange market?
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How can you insure against foreign exchange risk?
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| Question | Answer |
|---|---|
| What are the two functions of the foreign exchange market? | 1. used to convert the currency of one country into the currency of another. 2. provides some insurance against foreign exchange risk |
| How can you insure against foreign exchange risk? | by using spot exchange rates, forward exchange rates and currency swaps |
| What is currency speculation? | the short term movement of funds from one country to another in the hopes of profiting from shifts in exchange rates |
| What three factors have an important impact on future exchange rate movements in a country's currency? | 1. a country's price inflation (cost of goods) 2. a country's interest rate (cost of money) 3. market psychology |
| What index exemplifies purchasing power parity and what does that index explain? | The Big Mac Index and the law of one price |
| What are three types of currency convertibility? | freely convertable, externally convertable adn nonconvertable |
| What are the three types of foreign exchange risk? | 1. transaction exposure: extent to which individual transactions are affected by fluctuations in exchange value. 2. translation exposure 3. economic exposure: extent to which changes in exchange rates affect a firm's future international earning power. |
| What is a floating exchange rate? | when a country allows the foreign exchange market to determine the relative value of a currency |
| What is a pegged exchange rate? | when a country fixes the value of its currency relative to a reference currency |
| What is a dirty float? | when a country tries to hold the value of its currency within some range of a reference currency |
| What is a fixed exchange rate? | when countries fix thier currencies aganist each other |
| What is the amount needed to purchase one ounce of gold called? | gold par value |
| What are the two intitutions formed from Bretton Woods? | The IMF and the World Bank |
| What was the main accomplishment of Bretton Woods? | it fixed currencies to gold |
| What were the roles of the IMF? | implementing a fixed exchange rate system which brought stablitiy to the world trade enviroment, it curtailed price inflation, lent to foreign members in need to tide them over during short period deficits. |
| What was decided during the Jamaica Agreement? | 1. floating rates were declared acceptable 2. gold was abandoned as a reserve asset 3. the amount member countries contribute to the IMF was increased |
| What are market makers? | the financial service companies that connect investors and borrowers, either directly or indirectly |
| What are the benefits of a global capital market? | there is an additional supply of funds, the lower cost of capital, provides a wider range of investment opportunities |
| What two factors are responsible for the growth of capital markets? | 1. advances in information 2. deregulation by governments |
| What is a eurocurrency? | any currency banked outside of its country of origin |
| Besides the eurodollar, what other eurocurrencies are important? | the euro-yen, euro-pound and the euro-euro |
| What are the two types of international bonds? | foreign bonds and eurobonds |
| What are some attractions of the Eurobond Market? | an absence of regulatory interference, less stringent disclosure requirements and a favorable tax status |
| What are the world's four major trading currencies? | the U.S dollar, the EU's euro, the Japanese Yen and the British pound. |
| What are the arguments for a pro floating exchange rate? | the ability to expand or contract the money supply as it sees fit (called monetary policy autonomy) and automatic trade balance adjustments |
| What is an argument for a pro fixed exchange rate? | it ensures that governments do not expand thier monetary supply too rapidly, causing high inflation |
| What factors of the international market affect profitability of trade and investment deals? | transaction exposure, translation exposure and economic exposure. |
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callieco