80 terms

Foreign exchange market

STUDY
PLAY
In a world with few impediments to capital mobility, the domestic interest rate equals the sum of the foreign interest rate and the expected depreciation of the domestic currency, a situation known as the
interest parity condition
A spot transaction in the foreign exchange market involves the
immediate (within two days) exchange of bank deposits
When the value of the British pound changes from $1.50 to $1.25, the pound has ________ and the dollar has ________.
depreciated; appreciated
When the value of the dollar changes from £0.50 to £0.75, the pound has ________ and the dollar has ________.
depreciated; appreciated
When the exchange rate changes from 1.0 euros to the dollar to 1.2 euros to the dollar, the euro has ________ and the dollar has ________.
depreciated; appreciated
When the exchange rate changes from 1.0 euros to the dollar to 0.8 euros to the dollar, the euro has ________ and the dollar has ________.
appreciated; depreciated
If the dollar ________ from 1.2 euros per dollar to 0.8 euros per dollar, the euro ________ from 0.83 dollars to 1.25 dollars per euro.
depreciates; appreciates
If the dollar appreciates from 0.8 euros per dollar to 1.2 euros per dollar, the euro depreciates from ________ dollars to ________ dollars per euro.
1.25; 0.83
If the dollar depreciates relative to the Swiss franc,
-swiss chocolate will become more expensive in the United States
-American computers will become less expensive in Switzerland
If the dollar appreciates relative to the Swiss franc,
Swiss chocolate will become cheaper in the Unites States
When the exchange rate for the euro changes from $1.00 to $1.20, then, holding everything else constant, the euro has
appreciated and German cars sold in the United States become more expensive
When the exchange rate for the euro changes from $1.20 to $1.00, then, holding everything else constant, the euro has
depreciated and American wheat sold in Germany becomes more expensive
The starting point for understanding how exchange rates are determined is a simple idea called ________, which states that if two countries produce an identical good, the price of the good should be the same throughout the world no matter which country produces it.
the law of one price
The theory of purchasing power parity is a theory of how exchange rates are determined in
the long run
The ________ states that exchange rates between any two currencies will adjust to reflect changes in the price levels of the two countries.
theory of purchasing power parity
The theory of purchasing power parity states that exchange rates between any two currencies will adjust to reflect changes in
the price levels of the two countries
In the long run, a rise in a country's price level (relative to the foreign price level) causes its currency to ________, while a rise in the country's relative productivity causes its currency to ________.
depreciate; appreciate
If the 2005 inflation rate in Britain is 6 percent, and the inflation rate in the U.S. is 4 percent, then the theory of purchasing power parity predicts that, during 2005, the value of the British pound in terms of U.S. dollars will
fall by 2 percent
The theory of purchasing power parity cannot fully explain exchange rate movements because
-not all goods are identical in different countries
-some goods are not traded between countries
The theory of purchasing power parity cannot fully explain exchange rate movements because
some goods are not traded between countries
In the short run, the quantity of dollars supplied (deposits, bonds, equities) is
fixed with respect to the exchange rate
Increased demand for a country's ________ causes its currency to appreciate in the long run, while increased demand for ________ causes its currency to depreciate.
exports; imports
If the demand for ________ goods decreases relative to ________ goods, the domestic currency will depreciate.
domestic; foreign
If the inflation rate in the United States is higher than that in Germany and productivity is growing at a slower rate in the United States than it is in Germany, in the long run,
the euro should appreciate relative to the dollar
When François the Foreigner considers the expected return on dollar deposits in terms of foreign currency, the expected return must be adjusted for
any expected appreciation or depreciation of the dollar
The expected return on dollar deposits in terms of foreign currency is the ________ the interest rate on dollar deposits and the expected appreciation of the dollar.
sum of
If the interest rate on foreign deposits increases, holding everything else constant,
the expected return on these deposits must also increase
If the interest rate on dollar deposits is 10 percent, and the dollar is expected to appreciate by 7 percent over the coming year, the expected return on dollar deposits in terms of the foreign currency is
17 percent
If the interest rate is 7 percent on euro deposits and 5 percent on dollar deposits, and if the dollar is expected to appreciate at a 4 percent rate,
the expected return on euro deposits in terms of dollars is 3 percent
If the interest rate is 13 percent on euro deposits and 15 percent on dollar deposits, and if the euro is expected to appreciate at a 4 percent rate relative to the dollar, then
none of the above will occur
The condition which states that the domestic interest rate equals the foreign interest rate minus the expected appreciation of the domestic currency is called
the interest parity condition
According to the interest parity condition, the domestic interest rate is equal to the foreign interest rate
less the expected appreciation of the domestic currency
According to the interest parity condition, if the domestic interest rate is ________ the foreign interest rate, then ________.
above; there is expected appreciation of the foreign currency
According to the interest parity condition, if the domestic interest rate is 12 percent and the foreign interest rate is 10 percent, then the expected ________ of the foreign currency must be ________ percent.
appreciation; 2
According to the interest parity condition, if the domestic interest rate is 10 percent and the foreign interest rate is 12 percent, then the expected ________ of the foreign currency must be ________ percent.
deprectation; 2
When Americans and foreigners expect the return on ________ deposits to be high relative to the return on ________ deposits, there is a higher demand for dollar deposits and a correspondingly lower demand for foreign deposits.
dollar; foreign
When Americans and foreigners expect the return on dollar deposits to be high relative to the return on foreign deposits, there is a ________ demand for dollar deposits and a correspondingly ________ demand for foreign deposits.
higher; lower
As the relative expected return on dollar deposits increases, foreigners will want to hold more ________ deposits and less ________ deposits.
foreign; dollar
As the relative expected return on dollar deposits increases,
Americans will want to hold more dollar deposits and less foreign deposits
The foreign exchange market
-is organized as an over-the-counter market in which several hundred dealers stand ready to buy and sell deposits denominated in foreign currencies.
-is very competitive.
- functions no differently from a centralized market.
The purchasing power parity theory
does not take into account that many goods and services are not traded across borders
Which of the following risks is created by investing in foreign assets?
foreign exchange risk
Which of the following cannot be a reason for purchasing foreign assets?
-earning high rates of return
-diversifying asset portfolios
-speculating on the direction of exchange rate changes
-moving funds out of politically unstable countries
A speculator exchanged Euros for U.S. Dollars. The speculator's expectation must be that _______.
the Dollar will appreciate against the Euro
Exchange rates for major world currencies are _______.
floating
A currency forward contract should specify all but one of the following:
-currencies to be exchanged
-the amount of one of the currencies in the exchange
-the exchange rate
-the date of the exchange
An exchange rate for a transaction that will occur at some point in the future is a _______ rate.
forward
If foreign exchange markets are efficient, _______.
forward exchange rates are unbiased predictors of future spot rates
If the U.S. Dollar is expected to appreciate against the Japanese Yen, _______.
the yen-dollar spot exchange rate will be higher than the forward exchange rate
All of the following are active participants in the foreign exchange markets except
corporations operating exclusively in their domestic markets
Assume that the spot exchange rate between the Euro (€) and the Swiss (CHF) franc is €6025/CHF and the one-year forward rate is €6225/CHF. Which of the following must be true?
The Euro is expected to depreciate relative to the Swiss Franc
If one-year interest rates in the U.S. are higher than in the U.K., _______.
the U.S. Dollar is expected to buy fewer British Pounds one year from now
If the U.S. Dollar trades at a forward premium relative to the Euro, _______.
-the Dollar is expected to appreciate against the Euro
-the Euro is expected to buy fewer dollars in the future
All else equal, a higher real rate of return in the country should lead to _______.
increase capital flows into the country
If a government sells domestic currency in the forex market, the supply of the domestic currency should _______, and its exchange rate should _______.
increase; decrease
Consistent or cross exchange rates imply that _______.
the exchange rate between two currencies is the same across different dealers
If the consistent or cross exchange rates condition is violated, traders can profit by _______.
buying a currency at a lower exchange rate and selling it at a higher exchange rate
According to the _______, a commodity should have the same price in every country.
law of one price
The purchasing power parity describes _______.
how exchange rates should change to maintain the same value for the same good across countries
Which of the following factors does not contribute to deviations from the law of one price?
free flow of capital
Suppose that you invested in a foreign money market security for one year. The return on this foreign investment was 5% and the foreign currency depreciated against the dollar over the year. Which of the following statements must be true?
The domestic return on the investment is below 5%
Which of the following statements is inconsistent with the interest rate parity?
Nominal interest rates must be the same across countries
The interest rate parity implies that _______.
investors earn the same risk adjusted rates of return in different countries
Assume that the nominal one-year risk-free rates are the same in the U.S. and the U.K. The British Pound one-year forward exchange rate ₤0.50/$, while the spot exchange rate is ₤0.52/$. Which of the following statements is true?
To earn a riskless profit, an arbitrageur can borrow U.S. Dollars, convert them into British Pounds to buy Pound-denominated securities, and enter into the forward contract to exchange Pounds for U.S. dollars one year from now.
If the one-year risk-free interest rate in the U.S. is _______ than in Japan, the one-year forward exchange rate of the U.S. Dollar (¥/$) should be ________ than the spot rate.
higher; lower
According to the interest rate parity, an exchange rate between two currencies should change when _______.
the two countries experience unequal increases in interest rates
If inflation in the United States is below that in Britain, one would expect
the forward exchange value of the dollar to be higher relative to the pound than spot exchange rates
A stronger dollar benefits ________ and hurts ________
American consumers; American businesses
A weaker dollar benefits ________ and hurts ________
American businesses; American consumers
The price of one country's currency in terms of another's is called
the foreign exchange rate
T/F
The foreign exchange market is organized as an over-the-counter market in which deposits denominated in foreign currencies are bought and sold.
TRUE
T/F
When the value of the dollar changes from 0.50 pounds to 0.75 pounds, the pound has appreciated and the dollar has depreciated.
FALSE
T/F
When the exchange rate for the euro changes from $0.90 to $0.85, then holding everything else constant, the euro has depreciated and American wheat sold in Germany becomes more expensive.
TRUE
T/F
If the dollar depreciates relative to the British pound, British sweaters will become more expensive in the United States.
TRUE
T/F
If the dollar appreciates relative to the Swiss franc, Swiss chocolate will become cheaper in the United States.
TRUE
T/F
If the exchange rate between the dollar and the Swiss franc changes from 1.8 to 1.5 francs per dollar, the franc depreciates and the dollar appreciates.
FALSE
T/F
Increased demand for a country's exports causes its currency to depreciate.
FALSE
T/F
As the relative expected return on dollar deposits increases, Americans will want to hold fewer dollar deposits and more foreign deposits.
FALSE
T/F
According to the interest parity condition, if the domestic interest rate is 12 percent and the foreign interest rate is 10 percent, then the expected appreciation of the foreign currency must be 2 percent.
TRUE
T/F
Depreciation of a currency makes it easier for domestic manufacturers to sell their goods abroad and makes foreign goods less competitive in domestic markets
TRUE
YOU MIGHT ALSO LIKE...