Foreign Exchange.pptVIP

Foreign Exchange MBA 774 Macroeconomics Class Notes - Part 3 Foreign Exchange Rates The exchange rate is the price of one country’s currency in terms of another country’s currency Quoted exchange rates can be either direct or indirect, one method is usually the convention Direct: home currency per unit of foreign currency Examples from US perspective: 1.676 US Dollars (USD) per British Pound (GBP) 1.152 US Dollars (USD) per Euro (EUR) Indirect: foreign currency per unit of home currency Examples from US perspective: 109.58 Japanese Yen (JPY) per US Dollar (USD) 1.3664 Swiss Francs (CHF) per US Dollar (USD) Prices in Foreign Currency Use the exchange rate in direct terms Example 1: How much does a €100 sweater cost an American if the exchange rate is 1.15 $/€? Price in $ = €100 * 1.15 $/€ = $115.00 Example 2: How much does a 100 CHF sweater cost an American if the exchange rate is 1.37 CHF/$? Price in $ = 100 CHF * (1 / 1.37 CHF/$) = $72.99 Depreciation and Appreciation A depreciation of the local currency means that it takes more local currency to buy a unit of foreign currency An appreciation of the local currency is the opposite Example: If the $/€ exchange rate goes up from 1.10 to 1.20 the dollar has depreciated against the euro but, the euro has appreciated against the dollar. Depreciation and the Price of Imports A depreciation of a country’s currency makes its goods cheaper for foreigners and makes foreign goods more expensive. Example: Consider a bottle of French wine that costs $20 when the $/€ exchange rate is 1.10. Now what is the $ price of the bottle of wine if the dollar depreciates to 1.20 $/€ ? Price in € before depreciation = $20 (1/1.10 $/€ ) = € 18.18 Price in $ after depreciation = € 18.18 (1.20 $/€ ) = $ 21.82 or Price in $ after depreciation = $20 (1.20/1.10) = $ 21.82 Foreign Exchange Trading The vast majority of foreign exchange (FX) trading is done over-the-counter (OTC) Most transactions have th