Eqm in Forign Exchange

8/3/2019 Eqm in Forign Exchange

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Globalization of Market and Product

Submitted by:

Shahzaib

Reg No:

BCM 05083040

Semester:

B.com(A)7th

Submitted to:

Miss Saira ikhlaq

The university of Lahore

(City Campus)


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FOREIGN EXCHANGE MARKET:

A market that trades the currencies of different countries. The foreign exchange market isactually a series of different markets, each exchanging the currency of one nation for that of

another nation. A foreign exchange market sets the price of one currency in terms of theother; a price termed the foreign exchange rate, or simply exchange rate. The impact of

government exchange rate policies, including fixed exchange rates, flexible exchange rates,and managed flexible exchange rates, can be illustrated using the foreign exchange market.

The foreign exchange market is a market that trades the domestic currency of one nation forthe domestic currency of another nation. A relatively active foreign exchange market, for

example, trades U.S. dollars and British pounds. The global economy is actually comprisedof a series of foreign exchange markets. U.S. dollars are also traded for Japanese yen,

Mexican pesos, Canadian dollars, and a host of other currencies in assorted foreign exchange

markets.

Like any market, the foreign exchange market works with two variables --price and quantity.The quantity exchanged is one of the two currencies and the price is then specified in terms

of the other currency. In the foreign exchange market for U.S. dollars and British pounds,British pounds are the quantity exchanged and the price is then specified as U.S. dollars per

British pound. Alternatively this market can be viewed from the other side of the exchangesuch that U.S. dollars are the quantity exchanged and the price is specified as British pounds

per U.S. dollar.

The exchange of currencies through foreign exchange markets is needed, in part, to facilitate

the international trading of goods and services. When nations import and export goods and

services they also need to exchange domestic currencies for foreign currencies. The import

purchase of a Japanese car by a U.S. consumer requires that U.S. dollars (the currency used

by the U.S. consumer for the initial purchase) be exchanged for Japanese yen (the currency

used to pay Japanese resources for the production).

However, in addition to international trade, foreign exchange markets also facilitate the flow

of capital investment among countries. Should a Japanese investor, for example, seek to

purchase or construct capital goods in the United States, then Japanese yen needs to be

exchanged for U.S. dollars.


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known, multinational corporation located in Shady Valley, U.S.A.) wants to purchasea soft drink bottling plant in Northwest Queoldiola, then it must obtain queolds to

complete this investment.

y Speculators: A third key source of demand is financial speculators who regularly buyand sell different currencies (as well as other financial assets). They are motivated in

this activity like any financial investment -- to buy low and sell high. They purchase a

given currency today in hopes that its price will rise tomorrow.

Supply Curve

The supply curve in this exhibit, labeled S, is the supply for those seeking to sell queolds.

Like other supply curves, this one is positively sloped. If the price of queolds rises, then

sellers are willing to sell a larger quantity. But who is most likely to be on the selling side of

queolds?

Before getting to the specific list, a quick answer to this question is that sellers are merely

buyers of other currencies. The act of demanding one currency necessarily involves the

supply of another currency. Those who demand queolds, for example, supply csonds or

another currency. As such, the list of suppliers is essentially the same as the list ofdemanders.

y Importers: At the top of this list are the Northwest Queoldiolans who import goodsfrom other countries (such as Csonda). To import goods from other countries, these

buyers must trade their domestic currency (queolds) for the currency used by the other

nation.

y Investors: Much like demand, businesses and investors seeking to purchase financialor physical capital assets contribute to the supply of queolds. However, in this case it

is Northwest Queoldiolan investors who are undertaking foreign investment, the

purchase of capital goods in other countries. Like Northwest Queoldiolan importers,these investors need to trade their domestic currency for the foreign currency.

y Speculators: Lastly, financial speculators are a source of supply just as they are asource of demand. When these folks buy a currency anticipating a higher price, then

they are a source of demand. However, when they sell that currency, presumably afterthe price has risen, then they are a source of supply.


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Equilibrium Price and Quantity

This exhibit reproduces the foreign exchange market

for queolds. The quantity of queolds is measured on thehorizontal axis and the price of queolds in terms of

csonds is measured on the vertical axis. The demand

curve for queolds, based on those seeking to export Northwest Queoldiolan goods as well as businesses

seeking to purchase Northwest Queoldiolan capitalassets, is the negatively-sloped curve labeled D. The

supply curve for queolds, based on NorthwestQueoldiolan seeking to purchase Csondan exports or

businesses seeking to purchase Csondan capital assets,is the positively-sloped curve labeled S.

On the surface, equilibrium in this foreign exchange

market is much like that in any market. Equilibrium is

achieved at the intersection of the demand and supply

curves. The equilibrium price is 0.2 csonds per queold

and the equilibrium quantity of 500 queolds. Click the [Equilibrium] button to highlight this

intersection.

The price is the currency exchange rate between queolds and csonds. An exchange rate of 0.2

csonds per queold also implies an exchange rate of 5 queolds per csond. Or stated in other

terms, the exchange rate between queolds and csonds is at a rate of 5 to 1. Exchange rates, as

much as anything, reflect the relative values of each currency, which depend on the

productivities of each country and the quantities of currency available. The 5 to 1 exchange

rate indicates that five times as many queolds are in circulation and thus each csond can

purchase goods that are five times more valuable.

The equilibrium quantity of queolds, taken in conjunction with the equilibrium exchange rate,

provides a bit of insight into csonds. If 500 queolds are exchanged for csonds at a rate of 5 to

1, then the other side of this exchange involves 100 csonds. In other words, the foreign

exchange market for queolds also indicates the equilibrium for the foreign exchange market

for csonds. The equilibrium exchange rate in the foreign exchange market for csonds is 5

queolds per csond and the equilibrium quantity of csonds exchanged is 100.

Two Markets in One

Although the inference has been made in no small way, it deserves further emphasis -- a

foreign exchange market is really two markets in one. Although the graph presented in the

exhibit above measures queolds on the horizontal axis, this is NOT just the foreign exchangemarket for queolds. Because the price of queolds is stated in terms of csonds, this is also the

foreign exchange market for csonds.

If, for the sake of argument, the exchange rate is 0.2 csonds per queold in this foreign

exchange market for queolds, then the exchange rate is also 5 queolds per csond in the

foreign exchange market for csonds. That is, 1 csond is traded for 5 queolds, however you

might want to state the trade. In fact, these two foreign exchange markets are really one and

the same -- csonds for queolds, queolds for csonds.

Equilibrium


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Exchange Rate Policies

The exchange rate between currencies is commonly subject to government policy control.

Such control can influence international trade, the balance of trade, and the balance ofpayments. Three particular policy options are used -- flexible exchange rate, fixed exchange

rate, and managed flexible exchange rate.

y Flexible Exchange Rate: A flexible exchange rate, also termed floating exchange rate,is an exchange rate determined through the unrestricted interaction of supply anddemand in the foreign exchange market. A flexible exchange rate means that a

country is NOT trying to manipulate currency prices to achieve some change in theexports or imports. This policy is based on the presumption that the free interplay of

market forces is most likely to generate a desireable pattern of international trade.

y Fixed Exchange Rate: A fixed exchange rate is an exchange rate that is established ata specific level and maintained through government actions (usually through

monetary policy actions of a central bank). To fix an exchange rate, government must

be willing to buy and sell currency in the foreign exchange market in whateveramounts are necessary to keep the exchange rate fixed. A fixed exchange rate

typically disrupts the balance of trade and balance of payments for a country. But inmany cases, this is exactly what a country is seeking to do.

y Managed Flexible Exchange Rate: A managed flexible exchange rate, what is alsotermed a managed float, is an exchange rate that is generally allowed to adjust due tothe interaction of supply and demand in the foreign exchange market, but with

occasional intervention by government. Most nations of the world currently use amanaged flexible exchange rate policy. With this alternative an exchange rate is free

to rise and fall, but it is subject to government control if it moves too high or too low.

With managed float, the government steps into the foreign exchange market and buys

or sells whatever currency is necessary keep the exchange rate within desired limits.

Reference:

http://www.amosweb.com/cgi-bin/awb_nav.pl?s=wpd&c=dsp&k=foreign+exchange+market

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Eqm in Forign Exchange