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Foreign Exchange and International Financial Markets
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Chapter 8 - 1
Chapter 8
Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Foreign Exchange and International Financial
Markets
Chapter 8 - 2
Learning Objectives
• Describe how demand and supply affect the price of foreign exchange
• Discuss the role of international banks in the foreign-exchange market
• Learn how firms use the spot and forward markets to settle international transactions
• Discuss arbitrage in foreign exchange• Explore the international capital market
Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Chapter 8 - 3
The Economics of Foreign Exchange
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Chapter 8 - 4
Demand for Yen
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The demand for yen is derived from foreigner’s demand for Japanese
products
Chapter 8 - 5
Supply of Yen
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The supply of yen is derived from Japanese demand for foreign
products
Chapter 8 - 6
The Market for Yen
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Equilibrium is reached when supply and demand are equal
Chapter 8 - 7
Foreign Exchange Rate Quotes
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IndirectQuote
DirectQuote
Chapter 8 - 8
Summary of Discussion
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Chapter 8 - 9
Structure of the Foreign Exchange Market
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Chapter 8 - 10
Currencies Involved in Foreign-Exchange Market Transactions
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Chapter 8 - 11
The Role of Banks
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Foreign-Exchange Market
Speculation and Arbitrage
Spread Between Bid and Ask Prices
Chapter 8 - 12
Types of Markets
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Wholesale Retail
Chapter 8 - 13
Foreign-Exchange Clients
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•Commercial Customers
•Exchange-Rate Speculators
•Currency Arbitrageurs
Chapter 8 - 14
Types of Currencies
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Convertible vs. Inconvertible
Chapter 8 - 15
Summary of Discussion
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Chapter 8 - 16
Spot and Forward Markets
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Chapter 8 - 17
Types of Markets
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•Spot Market•Forward Market
Chapter 8 - 18
Futures Transactions
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•Swap Transactions•Currency Futures•Currency Options
Chapter 8 - 19
Forward Pricing of Foreign Currency
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Current Price of the British Pound (£)
Firm’s Holdings of (£) Assets
Firm’s Holdings of (£) Liabilities
• Selling at Forward Discount
• Selling at Forward Premium
Reduce Increase
Increase Reduce
Chapter 8 - 20
Summary of Discussion
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Chapter 8 - 21
Arbitrage and the Currency Market
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Chapter 8 - 22
Arbitrage of Goods
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The Law of One Price
Buy in “Cheap” Market
Sell in “Expensive” Market
Chapter 8 - 23
Purchasing Power Parity
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PPP
ExpensiveMarket
CheapMarket
Cost of Currency “B”
Price of Good “X”
Cost of Currency “A”
Price of Good “X”
Chapter 8 - 24
Arbitrage of Money
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Professional Traders
Covered Interest
Three-PointTwo-Point
Chapter 8 - 25
Two-Point Arbitrage
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Risk-Free Profit
Chapter 8 - 26
Three-Point Arbitrage
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$2 = £1 £1 = ¥200
$1 = ¥120
Sell £1, G
et $2
Sell $2, Get ¥240
Sell ¥240, Get £1.2
Step 2
Step 1 Step 3
New York Tokyo
London
Gain£0.2
Chapter 8 - 27
Covered-Interest Arbitrage
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Currencies of Two Countries
Interest Rate Differences
Forward Discount/Premium≠
Chapter 8 - 28
The International Fisher Effect
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Country’s Inflation Rate
Expected to Increase
Expected to Decrease
Nominal Interest
Forward Premium
Forward Discount
Higher Shrink Widen
Lower Widen Shrink
Chapter 8 - 29
Summary of Discussion
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Chapter 8 - 30
The International Capital Market
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Chapter 8 - 31
The Eight Largest Banks
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Rank Company Country Revenues ($Mil)
1 ING Group Netherlands 147,052
2 Bank of America United States 134,194
3 BNP Paribas France 128,726
4 J.P. Morgan Chase & Co United States 115,475
5 Citigroup United States 111,055
6 Crédit Agricole France 105,003
7 HSBC Holdings United Kingdom 102,680
8 Banco Santander Spain 100,350
Chapter 8 - 32
International Banking
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CorrespondentRelationship
SubsidiaryBank
Affiliated BankBranch Bank
Chapter 8 - 33
International Commercial Banking
Services
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Everyday Transactions
Currency Exchange
Chapter 8 - 34Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
Mergers andAcquisitions
Long-TermDebt and Equity
Investment Banking
Chapter 8 - 35
Eurocurrency Market
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Foreign Currency on Deposit
London Interbank Offer Rate (LIBOR)
International Banking Facility (IBF)
Chapter 8 - 36
• Foreign Bonds• Eurobonds• Global Bonds
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The International Bond Market
Chapter 8 - 37
Global Equity Markets
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•Capital Markets
•Country Funds
•Financial Services
Chapter 8 - 38
Offshore Financial Centers
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Bahamas
Bahrain
Cayman Islands
Luxembourg
Bermuda
Netherlands Antilles
Singapore
Switzerland
Chapter 8 - 39
Summary of Discussion
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Chapter 8 - 40
Chapter 8
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Foreign Exchange and International Financial
Markets
Chapter 8 - 41Copyright © 2013 Pearson Education, Inc. publishing as Prentice Hall
All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America.
