Chapter 4 Flashcards
The value of this currency is represented by the euro/peso exchange rate
Peso
An increase in the exchange rate from 1.32 $/euro to 1.40 $/euro represents an appreciation, depreciation, or no change, in the value of the $.
depreciation
This is the reason banks have a different exchange rate when buying pounds than when selling pounds.
Because they are charging a service fee
Common name given the fixed exchange rate system that prevailed from 1945-1973
Bretton Woods
In general, countries maintain one of these two broad types of exchange rate systems.
fixed or floating
The interest rate parity theory focuses on the behavior of this group of market participants.
international investors
Term used to describe the process of buying a currency when its price is low and selling it later when its price is higher.
currency arbitrage
This broad sub-account on the balance of payments records a greater value of daily transactions than the current account.
financial account
Term used to describe the percentage change in the value of an asset over time
rate of return
The three major concerns of all investors:
Expected rate of return, risk, and liquidity
The pound rate of return for a dollar holder if the British interest rate is 5% and the expected appreciation of the pound is 5%
10.25%
RoR = .05 + .05 + >05(.05) = .05 + .05 + .0025 = .1025 –> 10.25%
Exchange Rate:
the number of units of one currency that exchanges for a unit of another
The rate of appreciation (or depreciation):
is the percentage change in the value of a currency over some period
Suppose the current Turkish Lira (TRY) - US dollar (USD) exchange rate is 34.4 TRY/USD. If last year the exchange rate was 28.6 TRY/USD, by what percentage did the value of the TRY change with respect to the USD? Was is an appreciation or depreciation?
The TRY depreciated by 16.9%
- Calculate the % change in the dollar value (USD/TRY)
- % change USD/TRY = ((1/34.4) - (1/28.6))/(1/28.6) = ((28.6/34.4) - 1) =
- = – 0.169 x 100 = - 16.9 %
- Since the terms is negative it means the Turkish lira fell in value, or depreciated.
In the foreign exchange market, what does a rise in the exchange rate denominated as x/y indicate regarding the value of currency y relative to x?
Currency x has depreciated in value relative to y.
Floating Exchange Rate System:
the value of a country’s currency is determined by the supply and demand for that currency in exchange for another in private market operated by the major international banks
The Gold Standard:
Countries set their currency value to a weight in gold, usually measured in dollars per ounce or pounds per ounce. for the system to work, central banks agree to exchange gold for currency upon demand. If two countries, or a group of countries, all set their currency to a weight in gold, the currencies are fixed to each other,
Gold Exchange Standard:
a mixed system consisting of a cross between reserve currency standard and a gold standard. It follows two rules: 1, a reserve currency is chosen and all non-reserve countries agree to fix their exchange rates to the reserve at an announced rate. To maintain the fixity, the non-reserve countries will hold a stockpile of reserve currency assets. 2. the reserve country agrees to fix its currency value to a weight in gold and agrees to exchange gold for its own currency with other central banks on demand.
Reserve Currency Standard:
Countries hold a stockpile of reserve currency assets to maintain a fixed exchange rate, typically in a currency that is prominently used in international transactions or the currency of its major trading partner
Basket of currencies:
a country fixes their currency to a weighted average of several currencies, or creating a composite currency.
Crawling Pegs:
a system where a country fixes its exchange rate but also changes the fixed rate at periodic or regular intervals.
Pegged within a Band:
a country specifies a central exchange rate together with a percentage allowable deviation. If the market floating exchange rate rises outside of that deviation, the central bank intervenes.
Dollarization/Euro-ization
the strictest method for fixed exchange systems is to give up on your national currency and adopt another country’s.
