Economics
Foreign Exchange Market
The foreign exchange market is where currencies are traded, allowing businesses and individuals to buy, sell, and speculate on different currencies. It is a decentralized global marketplace that determines the exchange rate for currencies. The foreign exchange market plays a crucial role in facilitating international trade and investment.
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12 Key excerpts on "Foreign Exchange Market"
No longer available |Learn more- (Author)
- 2014(Publication Date)
- Research World(Publisher)
____________________ WORLD TECHNOLOGIES ____________________ Chapter-1 Foreign Exchange Market The Foreign Exchange Market ( forex , FX , or currency market ) is a worldwide decentralized over-the-counter financial market for the trading of currencies. Financial centers around the world function as anchors of trading between a wide range of different types of buyers and sellers around the clock, with the exception of weekends. The Foreign Exchange Market determines the relative values of different currencies. The primary purpose of the foreign exchange is to assist international trade and investment, by allowing businesses to convert one currency to another currency. For example, it permits a US business to import British goods and pay Pound Sterling, even though the business's income is in US dollars. It also supports speculation, and facilitates the carry trade, in which investors borrow low-yielding currencies and lend (invest in) high-yielding currencies, and which (it has been claimed) may lead to loss of competitiveness in some countries. In a typical foreign exchange transaction, a party purchases a quantity of one currency by paying a quantity of another currency. The modern Foreign Exchange Market began forming during the 1970s when countries gradually switched to floating exchange rates from the previous exchange rate regime, which remained fixed as per the Bretton Woods system. The Foreign Exchange Market is unique because of • its huge trading volume, leading to high liquidity; • its geographical dispersion; • its continuous operation: 24 hours a day except weekends, i.e. trading from 20:15 GMT on Sunday until 22:00 GMT Friday; • the variety of factors that affect exchange rates; • the low margins of relative profit compared with other markets of fixed income; and • the use of leverage to enhance profit margins with respect to account size.
eBook - PDF- Dominick Salvatore(Author)
- 2014(Publication Date)
- Wiley(Publisher)
The Foreign Exchange Market for any currency, say, the U.S. dollar, is composed of all the locations (such as London, New York, Zurich, Tokyo, Singapore, Sydney and Hong Kong SAR) where dollars are bought and sold for other currencies. These different monetary centers are connected by a telephone network and video screens and are in constant contact with one another. A vehicle currency is a currency, such as the U.S. dollar and the euro, that is used for international transactions and to denominate international contracts. Seigniorage refers to the benefit accruing to a nation from issuing the currency or when its currency is used as an international currency. 2. The principal function of Foreign Exchange Markets is the transfer of purchasing power from one nation and currency to another. A nation’s commercial banks operate as clearinghouses for the foreign exchange demanded and supplied. Commercial banks then even out their excess supply of or demand for foreign exchange with other commercial banks through the intermediation of foreign exchange brokers. The nation’s central bank then acts as the lender or borrower of last resort. 3. The exchange rate (R) is defined as the domestic currency price of the foreign currency. If free to fluctuate, the equilibrium exchange rate is determined at the intersection of the nation’s demand and supply curves for the foreign currency. If the domestic currency price of the foreign currency rises, we say that the domestic currency depreciated. In the opposite case, we say that the domestic currency appreciated. 4. From the exchange rate between each of a pair of currencies with respect to the dollar, the cross rate between the two currencies themselves can be determined. The effective exchange rate is a weighted average of Chapter Eleven The Foreign Exchange Market and Exchange Rates 293 the exchange rates between the domestic currency and the nation’s most important trade partners.
eBook - PDF- Shani Shamah(Author)
- 2003(Publication Date)
- Wiley(Publisher)
4.10 TRADE AND FINANCIAL FLOWS The Foreign Exchange Market provides the liquidity for all these market participants to convert their trade and financial flows from the currency of one money centre to the currency of another. These participants buy and sell foreign exchange directly or indirectly from the interbank market, which comprises professional foreign exchange traders who operate in every financial centre of the world. These flows and the products available to facilitate these conversions are shown in Figure 4.6. The products – the majority of which have been developed for the clients of the Foreign Exchange Market rather than for professional traders – are also used to hedge or protect the values of cash flows, as these can be affected by the potential changes in the relationships of the currencies involved. The funds borrowed or invested in the money markets may also need to be hedged for the same reasons. 5 Roles Played To make a market means to be willing and ready to buy and sell currencies. 5.1 MARKET MAKERS Market makers are those market participants that buy and sell currencies. As market makers, dealers (or traders) generally, according to market practice, quote a two-way price to another market maker, but not to most corporations. The terms ‘dealer’ and ‘trader’ are used interchangeably when referring to market makers. For market makers, reciprocity is standard practice. They constantly make prices to one another. Market makers are primarily major banks, for example, Barclays, Midland, J.P. Morgan Chase, Morgan Stanley, Deutsche Bank, Union Bank of Switzerland and Citibank. 5.2 PRICE TAKERS Price takers are those market participants who seek to either buy or sell currencies. They are usually corporations and fund managers (investors). For price takers, there is no reciprocity inasmuch as they won’t quote prices back to the other market participants.
eBook - PDFInternational Trade and Agriculture
Theories and Practices
- Won W. Koo, P. Lynn Kennedy(Authors)
- 2008(Publication Date)
- Wiley-Blackwell(Publisher)
The amount of foreign exchange demanded varies inversely with its price; the amount demanded at a high rate is less than the amount demanded at a low rate, provided that other economic factors (prices, interest rates, and real income) remain the same. Unlike the amount demanded, the quantity of foreign exchange supplied to the market varies directly with the rate of exchange. The market-clearing exchange rate is determined by the intersection of the demand and supply schedules. Once an equilibrium is achieved, the exchange rate will remain stable until a shift occurs in either the demand or supply schedule. The discussion of variables influencing the supply and demand for money focuses on three general factors: (1) the desire to import goods and services; (2) the desire to travel abroad; and (3) the desire to invest abroad. In addition to these three factors, there are other, more specific, factors that affect the exchange rate. These include real income, interest rates, and prices. The current account balance is the difference between exports and imports. The Marshall-Lerner condition and the J-curve effect are used to illustrate the interaction between the current account balance and the exchange rate. The currency exchange market is the market in which international currency trades take place. It involves interactions between currency buyers and sellers. The price of curren- cies, or the currency exchange rate, is influenced by the underlying factors of currency supply and demand. When a currency depreciates, it loses value relative to other currencies. Given a depreci- ation of a currency, foreigners find exports cheaper as residents find imports more expens- ive. Conversely, when a currency appreciates, it gains value relative to other currencies. Given an appreciation of a currency, foreigners find exports more expensive as residents find imports cheaper. There are a variety of participants in the currency exchange market.
eBook - PDF- Dominick Salvatore(Author)
- 2012(Publication Date)
- Wiley(Publisher)
In general, exporters allow 90 days for the importer to pay. However, the exporter usually discounts the importer’s obligation to pay at his or her commercial bank. As a result, the exporter receives payment right away, and the bank will eventually collect the payment from the importer when due. Still another function of Foreign Exchange Markets is to provide the facilities for hedging and speculation (discussed in Sections 11.9 and 11.10). Today, about 90 percent of foreign exchange trading reflects purely financial transactions and only about 10 percent trade financing. With electronic transfers, Foreign Exchange Markets have become truly Concept Check What are functions of the Foreign Exchange Market? global in the sense that currency transactions now require only a few seconds to execute and can take place 24 hours per day. As banks end their regular business day in San Francisco and Los Angeles, they open in Singapore, Hong Kong, Sydney, and Tokyo; by the time the latter banks wind down their regular business day, banks open in London, Zurich, Paris and Frankfurt; and before the latter close, New York and Chicago banks open. Case Study 11-1 examines the U.S. dollar as the dominant international currency, while Case 11-2 discusses the birth of the euro, which quickly became the second most important international currency. 11.3 EQUILIBRIUM EXCHANGE RATES In order to examine how exchange rates are determined, assume for simplicity Euro The common currency adopted at the beginning of 1999 by 11 of the 15 member countries of the European Union. that there are only two economies, the United States and the European Monetary Union (EMU), with the dollar ($) as the domestic currency and the euro (¤) as the foreign currency. The exchange rate between the dollar and the euro (R) is equal to the number of dollars needed to purchase one euro.
eBook - PDFEconomics for Investment Decision Makers
Micro, Macro, and International Economics
- Christopher D. Piros, Jerald E. Pinto(Authors)
- 2013(Publication Date)
- Wiley(Publisher)
On the sell side, the largest money center banks (e.g., Deutsche Bank, Citigroup, HSBC, UBS) are increasingly dominating the amount of trading activity routed through dealers. Regional and local banks are increasingly being marginalized in terms of their share of average daily turnover in FX markets. 484 Economics for Investment Decision Makers For a London-based market participant, the UK pound (GBP) is the domestic currency and the euro (EUR) is a foreign currency. For a Paris-based market participant, it would be the other way around. To avoid confusion, the professional FX market has developed a set of market conven- tions that all market participants typically adhere to when making and asking for FX quotes. Exhibit 9-6 displays some of these for the major currencies: the currency code used for obtaining exchange rate quotes, how the market lingo refers to this currency pair, and the actual ratio—price currency per unit of base currency—represented by the quote. Several things should be noted in this exhibit. First, the three-letter currency codes in the first column (for FX rate quotes) refer to what are considered the major exchange rates. Remember that an exchange rate is the price of one currency in terms of another: There are always two currencies involved in the price. This is different from referring to a single currency in its own right. For example, one can refer to the euro (EUR) as a currency; but if we refer to a euro exchange rate (EUR), it is always the price of the euro in terms of another currency, in this case the U.S. dollar. This is because in the professional FX market, the three-letter code EUR is always taken to refer to the euro–U.S. dollar exchange rate, which is quoted in terms of the number of U.S. dollars per euro (USD/EUR). Second, where there are six-letter currency codes in the first column, these refer to some of the major cross-rates.
eBook - PDFMoney, Markets, and Democracy
Politically Skewed Financial Markets and How to Fix Them
- George Bragues(Author)
- 2016(Publication Date)
- Palgrave Macmillan(Publisher)
Except in the early 2000s, owing to the euro’s introduction reducing the number of currencies available for trading, activity has risen uninterruptedly at a rate of 10.3 % per year from 1989 to 2013. Over the same time frame, world trade grew by 5.7 % per year. Clearly, more is transpiring in the FX market than the facilitation of exports and imports. A more telling sign of this is that, by 2013, currency markets were transacting a significantly greater multiple in single day rela- tive to 1989 than what was being traded around the world in goods and services in a whole year. If we look at both figures on a daily basis, the ratio of volume of currency trading to that of real goods and services has steadily risen (Fig. 7.1) 6 . Similar to bonds, most currency trading takes place over the counter in what is called the interbank market. As the term suggests, this is a network made up of major banks connected to each other by telephones, comput- ers, and electronic trading systems. As one might expect from the massive transactional volumes, the interbank FX market is open 24 hours a day during the trading week. In North American and European time zones, this means that Saturday is the only day of the week that the FX market is closed. Activities commence in Auckland and Sydney when it is late Sunday afternoon in North America and evening in Europe. Several hours 6 BIS, “Activity in the Foreign Exchange Market”, http://www.bis.org/publ/rpfxf10t.htm and World Bank, “World DataBank: World Development Indicators”, http://databank. worldbank.org/data/Views/VariableSelection/SelectVariables.aspx?source=World%20 Development%20Indicators%20and%20Global%20Development%20Finance. Note that global trade in this graph is equal to world exports in 2005 US dollars, as opposed to exports plus imports, to avoid double counting. 228 G. BRAGUES later, the trading action moves to Tokyo, Hong Kong, and Singapore.
eBook - PDFExchange Rate Regimes
Fixed, Flexible or Something in Between?
- I. Moosa(Author)
- 2006(Publication Date)
- Palgrave Macmillan(Publisher)
Transactions in the market for goods and services, such as imports and exports, give rise to demand for and supply of foreign exchange respectively. Equivalently, these transactions lead to the supply of and demand for the domestic currency respectively. (a) Exchange rate 0.60 1.00 1.40 1.80 2.20 1 9 17 25 33 41 49 57 65 73 81 89 97 (b) Foreign currency price 5 7 9 11 13 15 17 1 9 17 25 33 41 49 57 65 73 81 89 97 (d) Domestic currency revenue 600 650 700 750 800 850 900 1 9 17 25 33 41 49 57 65 73 81 89 97 (c) Quantity 60 70 80 90 1 9 17 25 33 41 49 57 65 73 81 89 97 Figure 2.8 The effect of changes in the exchange rate on domestic currency revenue (100 simulations) 38 Exchange Rate Regimes Transactions in financial markets, which are recorded on the capital account, also lead to demand for and supply of currencies. The sale of domestic securities and the purchase of foreign securities give rise to demand for foreign exchange (supply of domestic currency). Conversely, the purchase of domestic securities and the sale of foreign securities give rise to demand for the domestic currency (supply of foreign exchange). The relationship between the balance of payments and the Foreign Exchange Market is, therefore, obvious. For each transaction on the Foreign Exchange Market there is a corresponding entry on the balance of payments. For the purpose of illustrating this relationship further we will examine the Foreign Exchange Market from the perspective of the foreign currency, such that the exchange rate, E, is measured as the domestic currency price of one unit of the foreign currency. Three possible cases are illustrated in Figure 2.9, which shows the demand for and supply of foreign exchange curves (D and S respectively). In Figure 2.9(a), the Foreign Exchange Market is in equilibrium at the exchange rate E 0 , at which the supply of and demand for foreign exchange are equal. This is equivalent to saying that the balance of payments is in equilibrium.
eBook - PDFSpeculation and the Dollar
The Political Economy of Exchange Rates
- Laurence Krause(Author)
- 2019(Publication Date)
- Routledge(Publisher)
For instance, Charles Coombs, the former chief foreign exchange expert at the New York Federal Reserve Bank, has noted that Foreign exchange traders for better or worse, are not a bunch of scholarly Ph.D.s searching reams of statistical evidence for proof that a certain currency rate is becoming over or under valued and thereby triggering their decision to buy or sell. Anyone who has ever spent any time in a foreign exchange trading room knows only too well that traders focus primarily on short run developments. Foreign exchange traders have been taught by harsh experience that betting on the longer term fundamentals is an excellent way of losing your shirt. The name of the game is to anticipate market reactions to each new report coming off the ticker.28 Others have gone even further and have noted that, when traders focus on anticipating market reactions to news, the result tends to produce bubbles: THE Foreign Exchange Market 73 Many market operators who follow exchange rates on a daily or hourly bases advance the view that exchange rates move in speculative runs, perhaps touched off by a change (or revision of expectations about) fundamental economic conditions, thereafter reflecting a self sustaining speculative mentality: When the train is racing through the station at 90 miles an hour you don't think very long about where it is going to stop; you just try to get on board (anonymous broker).29 Casino-Style Capitalism In order to understand better the relationship between speculation and the Foreign Exchange Market, we need to examine the institutional structure of the market for foreign exchange and its evolution within a broader framework. This will allow us to link larger macroeconomic dynamics with the changing character of the Foreign Exchange Market. While providing such a framework is beyond the confines of this book, such considerations simply cannot be ignored.
- Michael Brandl(Author)
- 2020(Publication Date)
- Cengage Learning EMEA(Publisher)
So to buy those dollars, you need to pull your money out of the German bank, sell euros, and buy dollars. Similarly, you sell your bonds in the Japanese and British bond markets and convert the yen and pounds into dollars. All of this dollar buying is represented by an increase in demand for the dollar in the Foreign Exchange Market, as shown in Figure 19-4. So, in general, when an economy sees higher real, risk-adjusted interest rates, it will experi-ence an increase in demand for its currency in the Foreign Exchange Market. Thus, if market interest rates increase, ceteris paribus, the value of the currency appreciates. Expected Rates of Inflation As we have learned, inflation is an evil thing: It can distort the price-signaling mechanism, result in a misallocation of resources, have very negative social impacts, and increase the overall level of uncertainty. Simply put, unchecked inflation can cause significant damage to an economy. Quantity D $ S $ D ' $ Value of currency in the FX mkt Figure 19-4 Increase in Demand in the Foreign Exchange Market Copyright 2021 Cengage Learning. All Rights Reserved. May not be copied, scanned, or duplicated, in whole or in part. Due to electronic rights, some third party content may be suppressed from the eBook and/or eChapter(s). Editorial review has deemed that any suppressed content does not materially affect the overall learning experience. Cengage Learning reserves the right to remove additional content at any time if subsequent rights restrictions require it. 418 CHAPTER 19 Foreign Exchange Markets Changes in Monetary Policy Change Interest Rates and Thus Affect Exchange Rates Sometimes changes in monetary policy are made solely to affect the Foreign Exchange Market. During the Asian financial crisis in 1998, there was a huge sell-off of currencies in Southeast Asia.
eBook - PDFInternational Economics
Global Markets and International Competition
- Henry Thompson(Author)
- 2000(Publication Date)
- WSPC(Publisher)
If a firm in the US develops a new fast personal computer, foreign firms and consumers want to buy it, the supply of foreign currency rises, and the dollar appreciates. If the US government issues new 372 Chapter 11 Foreign Exchange bonds that have a high and secure yield, foreign investors want to buy them, the demand for dollars rises, and the dollar appreciates. If stocks in Tokyo suddenly seem attractive because of growth in the Japanese economy, the demand for yen to buy Japanese stocks increases and the dollar depreciates. The key to the exchange market is to understand the markets for the traded products or assets along with the market for the currencies involved. The FX market is linked to international markets for products and assets. Consider an increase in the price of coffee in Columbia. The higher price of coffee increases the demand for Colombian pesos to buy coffee already under contract. As illustrated in Figure 11.3, the demand for Colombian pesos shifts to the right. The volume of activity on the FX market increase, and the dollar depreciates. Figure 11.3 shows the market for pesos with an original exchange rate of $0.002/peso. With the increased demand for pesos, the value of the peso rises from $/peso = 0.002 to 0.003. The dollar depreciates from 500 to 333 pesos. $/peso 0.003 0.002 10 20 25 Million pesos Figure 11.3 Increase in the Demand for Foreign Currency This increase in demand (D) drives the exchange rate up from $0.002/peso to $0.003/peso. The quantity of trading in the Foreign Exchange Market also rises. As the dollar loses value, the domestic price of imported coffee rises further. Suppose coffee costs 750 pesos/pound at the time of the price hike. This peso price translates into 0.002 x 750 = $1.50 per pound at the original exchange rate. The dollar depreciation, however, increases the price to 0.003 x 750 = $2.25.
- Michael Brandl(Author)
- 2016(Publication Date)
- Cengage Learning EMEA(Publisher)
393 CHAPTER 19 Foreign Exchange Markets While changes in consumer preferences for imports and/or productivity changes can take several months or quarters to affect the exchange rate, the next variable can have an impact almost instantly. Real, Risk-Adjusted Interest Rates Imagine you work for the trust department of a corporation. Your supervisor informs you that the firm has $10 million that it does not need for the next six months. It is your job to get the highest possible rate of return on these funds, without exposing the firm to too much risk. What do you do? One of the first lessons of asset management is diversification: You don’t want to put all of your eggs in one basket, as the old saying goes. So, you would take a portion of the $10 mil-lion, convert it into yen, and buy bonds in the Japanese bond market. You would take another portion of the $10 million, convert it into pounds, and buy bonds in the British bond market. You might also want to convert a portion of the $10 million into euros and put it into a bank in Germany to take advantage of interest rates in Europe. Then, all of a sudden, US interest rates increase relative to the rest of the world. It is those relatively higher US interest rates of which you want to take advantage. But to do so, you need dollars to buy US government bonds or to put into a US bank. So, to buy those dollars you need to pull your money out of the German bank, sell euros, and buy dollars. Similarly, you sell your bonds in the Japanese and British bond markets and convert the yen and pounds into dollars. All of this dollar buying is represented by an increase in demand for the dollar in the Foreign Exchange Market, as shown in Figure 19-4. So, in general, when an economy sees higher real, risk-adjusted interest rates, it will experi-ence an increase in demand for the its currency in the Foreign Exchange Market. Thus, if market interest rates increase, ceteris paribus, the value of the currency appreciates.
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