Foreign Exchange (FOREX)

Transcription

1 Foreign Exchange (FOREX) The U.S. sells cars to Mexico. Mexico buys tractors from Canada. Japan buys fireworks from Mexico. This is the foreign exchange market, or FOREX (the global market for the trading of currencies). For all these transactions, there are different national currencies, and each country must be paid in their own currency. The buyer (importer) must exchange their currency for that of the seller (exporter). Changes is preferences/tastes, relative incomes between countries, relative price levels between countries, and changes in relative interest rates all can in pact foreign exchange. Page 1

2 Foreign Exchange (FOREX) The U.S. sells cars to Mexico. Mexico buys tractors from Canada. Japan buys fireworks from Mexico. This is the foreign exchange market, or FOREX (the global market for the trading of currencies from different countries). For all these transactions, there are different national currencies, and each country must be paid in their own currency. The buyer (importer) must exchange their currency for that of the seller ( exporter). Changes in preferences /tastes and relative incomes, relative price levels, and relative interest rates between countries can impact foreign exchan ge. On the foreign exchange market, the dollar exchange rate against the Russian ruble was weak in Feb,, 2011, about rubles per dollar: 1 to As of Jan., 2018, the dollar was much stronger: $1 - to In 2011, when the exchange rate between the dollar and the ruble was rubles per dollar, you could buy a McDonald's Big Mac in Russia for rubles, or $4. This was much more expensive in dollars than it is in The current exchange rate is rubles per dollar and the same Big Mac costs $2.05. From 2011 to 2018, the dollar appreciated and the ruble depreciated. As of Feb., 2019, the exchange rate was $1 to rubles.

3 Foreign Exchange (FOREX) (cont.) A higher dollar exchange rate (stronger value/purchasing power of U.S. currency compared to another country's currency) brought about by a higher interest rate would tend to make goods imported into the U.S. more attractive because it makes foreign goods cheaper with the stronger U.S. dollar. If the Federal Reserve (monetary policy) sells government bonds/securities to banks and thus the nominal interest rate rises while other countries' central banks maintain or even lower their interest rates, then the return on savings is more attractive in the U.S. than in other countries. Given this higher rate in the U.S., international capital (money) will flow from other countries into the U.S. to earn higher interest rates, resulting in the dollar's appreciation (increase in value) and an increase in aggregate demand (AD). A loss of funds from a country, like when interest rates go down, depreciates (decreases) a country's currency value and decreases its AD.

4 Foreign Exchange (FOREX) (cont.) In a country, a higher exchange rate (either fixed/pegged or flexible/floating, the value of one currency for the purpose of conversion to another) will increase the quantity demanded (Qd) of imported goods. This is because in the country where there are higher exchange rates, their money is valued more. The people in that country will buy less of their own country's goods and will then buy more imports. The higher the exchange rate, the better the bargain for the buyer. A fixed or pegged rate is a country's exchange rate fixed completely by its own country. A country fixes its exchange rate by keeping a large supply of their money by buying other currencies. A flexible or floating exchange rate is an exchange rate between countries that changes depending on the supply (S) and demand (D) in the international c,ommunity. Some governments attempt to depreciate their country's currency in order to promote exports.

5 Foreign Exchange (FOREX) (cont.) In the foreign exchange market we only look at two countries/currencies at a time and examine the price of one currency relative to that of the other currency. For example, dollars to euros in early Feb., 2018: $1 ==.81 What happens if you need more dollars to buy one euro? The price for the euro appreciates (the increase in value of a country's currency with respect to a foreign currency), like from $1 ==.81 to $2 == 1? The U.S. dollar depreciates (the loss in value of a country's currency with respect to a foreign currency) relative to the euro. More dollars are then needed to buy the other currency. The dollar is said to be "weaker," and the American price level (PL) will decrease. What happens if you need fewer dollars to buy one euro (the price for a euro decreases) from $1 ==.81 to $.95 ==.81? The U.S. dollar appreciates relative to the euro. Fewer units of dollars are needed to buy a single unit of the other currency. The dollar is then said to be "stronger," and the American price level will increase.

6 Foreign Exchange (FOREX) (cont.) If the GDP for a country is strong, the exchange rate of its currency will tend to rise. Its price level (PL) will increase, the chance of inflation will increase, and the chance of recession will decrease. If the GDP for a country is weak, the exchange rate of its currency will tend to decline. Its price level will decrease, the chance of inflation will decrease, and the chance of recession will increase. In addition, a higher exchange rate makes U.S. exports less attractive because it makes American goods more expensive for foreigners to buy. A higher exchange rate means more imports and fewer exports while a lower exchange rate means less imports and more exports.

7 Foreign Exchange (FOREX) (cont.) When thinking about FOREX and which country's currency is appreciating and which is depreciating, think of the currency that is wanted or demanded more relative to the other. For example, if America's currency is desired by foreigners either 1) the inflation in America is decreasing relative to another country making it cheaper to buy American goods because America's price level is decreasing or 2) America's interest rate is increasing relative to another country (making it more profitable for foreigners to put their money in American banks because of the higher rate of return from their investment). 1. F(J ra

8 For~n Exchange (FOREX) (cont.) hat happens if Europeans prefer vacationing in the United States? er Dollars er Euros s D ER= exchange rate Quantity of Dollars Traded Quantit r of Euros Traded he Do lar APPRECJ~ ES The Euro DEPRECIATES

9 Foreign Exchange (FOREX) (cont.) What will happen to the value of the Mexican Peso if either high inflation or low interest rates in Mexico decrease how much of it people want? er er Foreign exchange market for the Peso ER= exchan ge rate Pesos he e o D P The demand for Pesos will decrease since Mexico's trading partners will not want to 1 purchase higher priced Mexican products or lose money investing in Mexico. The supply of Pesos will increase as : Mexicans look to buy 1 : Q Quantity of Pesos Traded lower priced imports.

10 Foreign Exchange (FOREX) (cont.) Reasons for a change in FOREX (foreign exchange): 1. Changes in tastes- British tourists flock to the U.S... a. the demand for U.S. dollars increases (shifts right) b. the supply of British pounds increases (shifts right) c. the dollar appreciates and the pound depreciates er Dollars er Pounds D ER= exchange rate Quantity of Dollars Traded Quantity of Pounds Traded - - The Dollar APPRECIATES The Pound DEPRECIATES

11 Foreign Exchange (FOREX) (cont.) Reasons for a change in FOREX (foreign exchange): 2. Changes in relative incomes- U.S. growth increases U.S. incomes resulting in more imports... a. the U.S. buys more British imports b. the demand for pounds increases (shifts right) c. the supply of U.S. dollars increases (shifts right) d. the pound appreciates and the dollar depreciates er Pounds er Dollars D Quantity of Pounds Traded Quantity of Dollars Traded The Pound APPRECIATES The Dollar DEPRECIATES

12 Foreign Exchange (FOREX) (cont.) Reasons for a change in FOREX: 3. Changes in relative price level- U.S. prices increase relative to Britain resulting in more imports... a. the U.S. demand for cheaper imports increases b. the U.S. demand for the pound increases (shifts right) c. the supply of U.S. dollars increases (shifts right) d. the pound appreciates and the dollar depreciates er Pounds er Dollars D Quantity of Pounds Traded Quantity of Dollars Traded The Pound APPRECIATES The Dollar DEPRECIATES

13 Foreign Exchange (FOREX) (cont.) Reasons for a change in FOREX: 4. Changes in relative interest rates- Ex: U.S. has a higher interest rate than Britain... a. British people want to put money in U.S. banks b. capital flow (money) increases from other countries to the U.S. (shifts right) c. British demand for U.S. dollars increases (shifts right) d. British supply of pounds increase (shifts right) e. the dollar appreciates and the pound d~preciates er Dollars er Pounds Quantity of Dollars Traded Quantity of Pounds Traded The Dollar APPRECIATES The Pound DEPRECIATES

14 Foreign Exchange (FOREX) (cont.) For each of the following examples, identify what will happen to the value of U.S. Dollars vs. Japanese Yen. 1. American tourists increase visits to Japan U.S. $ depreciates and Yen appreciates Americans spend more in Japan 2. The U.S. government decreases personal income tax U.S. $ depreciates and Yen appreciates American money supply increases which leads to a higher dollar value and increased imports from Japan 3. Inflation in Japan rises faster than in the U.S. U.S. $ appreciates and Yen depreciates Japan will invest capital (money) in America and buy American goods because of the higher cost of Japanese goods 4. Japan has a budget deficit and increases interest rates U.S. $ depreciates and Yen appreciates Americans will invest capital (money) in Japan because of the higher interest rate in order to earn more money

15 Foreign Exchange (FOREX) (cont.) For each of the following examples, identify what will happen to the value of U.S. Dollars vs. Japanese Yen. 5. Japan places high tariffs (taxes) on all U.S. imports U.S. $ depreciates ( demand decreases) and Yen appreciates (supply decreases) American goods increase in price to pay for the Japanese tariff and more Japanese goods are purchased 6. The U.S. suffers a larger recession than Japan U.S. $ appreciates (supply decreases) and Yen depreciates ( demand decreases) Japan will invest capital (money) in America because of their lower price level due to the recession 7. The U.S. Federal Reserve sells bonds at high interest rates. U.S. $ appreciates and Yen depreciates Japan will invest capital (money) in America because of the higher interest rate in order to earn more interest

16 Foreign Exchange (FOREX)-Questions 10. An appreciation of the United States douar on the foreign exchange market could be cau ed by a decrea e in which of the following? (A) United State intere t rate (B) The United State con umer price index (C) Demand for the dollar by Unit d State re ident (D) Export from the United State (E) The tariff on good imported into the United State 22. If Mexicans increase their investment in the United States, the supply of Mexican pesos to the foreign exchange market and the dollar price of the peso will most likely change in which of the following ways? Supply of Pesos (A) Increase (B) Increase (C) Decrease (D) Decrease (E) Decrease Dollar Price of Peso Increase Decrease Increase Decrease Not change

17 Foreign Exchange (FOREX)-Questions 10. An appreciation of the United States douar on the foreign exchange market could be cau ed by a decrea e in which of the following? (A) United State intere t rate The United State con umer price index (C) Demand for the dollar by Unit d State re ident (D) Export from the United State (E) The tariff on good imported into the United State 22. If Mexicans increase their investment in the United States, the supply of Mexican pesos to the foreign exchange market and the dollar price of the peso will most likely change in which of the following ways? Supply of Pesos (A) Increase Increase (C) Decrease (D) Decrease (E) Decrease Dollar Price of Peso Increase.,_. Decrease Increase Decrease::::~;.,- Not change no foreigners would want U.S. currency with lower interest rates; their money would earn less a decrease of this would cause ::~epreciation of the $ if the supply of the Peso increases then the worth of each will decrease supply of the Pesos would increase because the dollar was wanted more

18 Foreign Exchange (FOREX)-Questions 37. The exchange rate i 1.2 euros per United State dollar. If a re taurant 1neal co t 30 euro in Pari France, what i its dollar cost to a United State tourist? (A) $2.50 (B) $3.60 (C) $25 (D) $30 (E) $ Whi ch of the fo llow ing i true if exchange rate are freely floa ting? (A) The free rnarket force of de mand and upply detennin e the equili briutn exc hange rates. (B) The demand curve for the cu1tency is upward sloping. (C) Only nominal value of currency ca n be detenni ned. (D) The rnarket deter mines the equili brium value of the curre ncy but gove rnments buy and sell cun ncy at a fixed rate. (E) Governrnent are unable to affec t the international value of their currency.

19 Foreign Exchange (FOREX)-Questions 37. The exchange rate i 1.2 euros per United State dollar. If a re taurant 1neal co t 30 euro in Pari France, what i its dollar cost to a United State tourist? (A) $2.50 (B) $3.60 $25 (D) $30 (E) $36 if: 1.2 euros = $1 then: 30 euros = $ Which of the following i true if exchange rate are freely floating?. ) The free rnarket force of demand and upply detennin e the equilibriutn exchange rates. this would be the case if the rate (B) The demand curve for the cu1tency is upward +- was flexible or fixed sloping. (C) Only nominal value of currency can be deterrni ned. (D) The rnarket determines the equilibrium value :... of the currency but governments buy and nope sell cun ncy at a fixed rate. (E) Governrnent are unable to affect the international value of their currency.

20 Foreign Exchange (FOREX)-Questions 55. If country X impo e a tariff on its i1nport, how will the supply of its currency and it exchange rate be affected in foreign exchange markets? Supply (A) Increase (B) lncrea e (C) No change (D) Decrease (E) Decrea e Cun ency Depreciate Appreciate Appreciate Depreciate Appreciate 29. When Country X' central bank engages in monetary policy actions that lead to a decrease in interest rates the international value of Country X's cun ency and Country X's exports and import wil1 1nost likely change in which of the following ways? Value of the Currency Exports Imports (A) Increa e Increa e Increa e (B) Increase Increa e Decrea e (C) Increase Decrease Decrea e (D) Decrease Increase De,crease (E) Decrease Increase Increase

21 Foreign Exchange (FOREX)-Questions 55. If country X impo e a tariff on its i1nport, how will the supply of its currency and it exchange rate be affected in foreign exchange markets? Supply Cun ency (A) Increase Depreciate (B) lncrea e Appreciate (C) No change Appreciate (D) Decrease Depreciate Decrea e Appreciate 29. When Country X' central bank engages in monetary policy actions that lead to a decrease in interest rates the international value of Country X's cun ency and Country X's exports and import wil1 1nost likely change in which of the following ways? Value of the Currency Exports Imports (A) Increa e Increa e Increa e (B) Increase Increa e Decrea e (C) Increase Decrease Decrea e (. Decrease Increase De,crease (E) Decrease Increase Increase supply of the currency would decrease because country X's people would want more of their own money because foreign goods would be more expensive because of the tariff the value would decrease because foreigners wouldn't want to invest with lower interest rates, exports would increase because country X's prices would decrease, and imports would decrease because country X can't afford to import more goods because their money is less valuable

22 Foreign Exchange (FOREX)-Questions 5 8. An incr ea e in Canada rea l int ere t rate relative to r al int re t rat in th re t of th world will lead to which of th following in Canada? (A An increase in ex port (B Ad crea e in imp ort (C A red uc d gover nm nt budget defic it (D Financial ca pit al infl ow (E D pr ciatio n of th Canadian do11ar 15. Th main be n fit of fr e trad e betw en two co untri e i that (A inco me di tributi on in eac h co untr y will become more equitable (B empl oyment in ach co unt ry w ill in crea e (C migration from one co untry to th o ther w ill. 1ncrea e (D eac h co untr y ca n co n um e beyond its co nstrain t of re o urce and produ ctivity (E eac h co untr y will become more elf- uffi ci nt

23 Foreign Exchange (FOREX)-Questions 5 8. An incr ea e in Canada rea l int ere t rate relative to r al int re t rat in th re t of th world will lead to which of th following in Canada? because the questions deals with high interest rates, the question is (A An increase in ex port dealing with investing money in (B Ad crea e in imp ort another country, not goods (C A red uc d gover nm nt budget defic it.-a deficit isn't relevant one way or another < Financial ca pit al infl ow (E D pr ciatio n of th Canadian do11ar.. _ nope, Canada's more would be wanted more = appreciation 15. Th main be n fit of fr e trad e betw en two co untri e i that a deficit isn't relevant one way or another (A inco me di tributi on in eac h co untr y will become more equitable none of these are (B empl oyment in ach co unt ry w ill in crea e., guaranteed to happen and (C migration from one co untry to th o ther w ill are not directly related to. < 1ncrea e free trade eac h co untr y ca n co n um e beyond its co nstrain t of re o urce and produ ctivity (E eac h co untr y will become more elf- uffi ci nt

24 Foreign Exchange (FOREX)-Questions 59. If the value of the United States dollar increases on the foreign exchange market, which of the following is mo t likely to occur in the hort run? (A) Aggregate demand wi11 decrease. (B) Aggregate demand wi11 increa e. (C) Aggregate supply wi1l decrease. (D) Both aggregate demand and aggregate supply wi 11 decrea e. (E) Both aggregate de1nand and aggregate supply wi1l increase Suppo e that Country A i experiencing high inflation relative to Country B which is enjoying steady growth with a stable price 1eve1. Wruch of the fo11owing would occur in the foreign exchange market? (A) An increase in the demand for Country A s cuttency (B) An increase in the upply of Country B' cuitency (C) A decrease in the supply of Country A's currency (D) A decrease in the demand for Country B 's cun ency (E) A depreciation of Country A' cuitency

25 Foreign Exchange (FOREX)-Questions 59. If the value of the United States dollar increases on the fore ign exchange marke t, which of the following is mo t lik ely to occ ur in the hort run? this question deals with importing/exporting goods, and since the Aggregate demand wi11 decrease. U.S. $ is appreciating, total demand in the (B) Aggregate demand wi11 increa e. (C) Aggregate suppl y wi1l decrease. (D) Both aggrega te demand and aggrega te suppl y > wi11 decrea e. (E) Bot_h ~ggregate de1nand and aggregate supply w11l 1ncrease Suppo e that Country Ai expe riencing high inflation relative to Co untr y B which is enjoy ing steady growth with a stable price 1eve 1. Wruch of the fo11ow ing would occ ur in the fore ign exc hange market? (A) An increase in the demand for Countr y A s cuttency (B) A n increase in the uppl y of Country B' U.S. will decrease because the people will buy goods from other cheaper countries aggregate demand will decrease but then there will be more of a supply of dollars cuitency., this question deals with (C) A decrease tn the suppl y of Country A s. t ; t d d 1mpor 1ng expor 1ng goo s, an since currency C A. h. h (D) A decrease in the demand for Coun try B's / ountry is experiencing ig -~U!,: ~~)' / inflation/increased price levels, Country B A depreciat ion of Co untr y A' cuitency won't want to buy from this

26 Foreign Exchange (FOREX)-Questions 2 1. If the international value of the United State dollar depreciates in co 1nparison with the Japan ese yen which of the followi ng i mo t likely to occ ur? (A) United States exports to Japan will increase. (B) The Unit ed State gove rnment will increase the tariff on Japa nese imports. (C) The Unit ed States balance-of-trade deficit with Japan wi11 become eve n larger. (D) United States tourists can be expec ted to visit Japan in grea ter numbers. (E) Trade between the United State and Japan will not be affec ted.

27 Foreign Exchange (FOREX)-Questions 2 1. If the international value of the United State dollar depreciates in co 1nparison with the Japan ese yen which of the followi ng i mo t likely to occ ur? (. United States exports to Japan will increase. this would not appreciate the U.S. (B) Th e Unit ed State gove rnment will increase -- currency internationally the tariff on Japa nese imports. (C) The Unit ed States balance-of-trade deficit :>.. with Japan wi11 become eve n larger. nope, since It would cost more to (D) United States tourists can be expec ted to visit buy Japanese goods Japan in grea ter numbers. (E) Tr ade between the United State and Japan _. not in the real world; something will not be affec ted. would change

28 Foreign Exchange (FOREX)-Questions 2. The price of O e ation' currency expressed in terms of another nationll s currency s called (A) the world price (B) the exchange rate (C) he aw of one price (D) rerms of trade (E) purchasing -power parity 45. If a French firm buys computers from the United States, there would be an increase in which of the following in the foreign exchange market? (A) Demand for United States dollars and supply of euros (B) Demand for both United States dollars and euros (C) Supply of United States dollars and demand for eoros (D) Supply of both l Tnited States dollars and euros (E) International value of the euro relati ve to the United States dollar

29 Foreign Exchange (FOREX)-Questions 2. The price of O e ation' currency expressed in terms of another nationll s currency s called (A) the world price the exchange ra te.... (C) he aw of one price - straight definition (D) rerms of trade (E) purchasing -power parity 45. If a French firm buys computers from the United States, there would be an increase in which of the following in the foreign exchange market? (e Demand for United States dollars and supply of euros./ both can't be demanded at the same time (B) Demand for both United States dollars and euros nope, since the computers are from (C) Supply of United States dollars and demand ~the U.S. the dollar would appreciate for eoros and euro depreciate (D) Supply of both l Tnited States dollars and~oth can't be supplied at the same time euros... nope, since. the computers are from (E) In~atlonal value of the euro relati ve to the._the U.S. the dollar would appreciate Umted States dollar and euro depreciate