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Chapter 7 Financial Markets Learning Objectives To understand how currencies are traded and quoted on world financial markets To examine the links between interest rates and exchange rates To understand the similarities and differences between domestic sources of capital and international sources of capital To examine how the needs of individual borrowers have changed the nature of the instruments traded on world financial markets in the past decade To understand how the debt crises of the 1980s and 1990s are linked to the international financial markets and exchange rates The Market for Currencies The price of any one country’s currency in terms of another country’s currency is called a foreign currency exchange rate Every market, every country, and every firm may have its own set of currency symbols Exchange Rate Quotations and Terminology Direct quotation: when the subject currency is stated first Indirect quotation: when the subject currency is stated second Spot rates: when the exchange of currencies takes place immediately Forward rates: when the currency exchange takes place at a later date and at an agreed upon exchange rate Direct and Indirect Quotations Most currencies are quoted in direct quotes versus the U.S. dollar The major exceptions are currencies associated with the British Commonwealth and the European euro When an exchange rate of a currency is stated without using the U.S. dollar as a reference, it is referred to as a cross rate Foreign Currency Market Structure The market for foreign currencies is a worldwide market that is informal in structure The “market” is actually the thousands of telecommunications links among financial institutions around the globe and it is open nearly 24 hours a day Market Size and Composition Until recently there was little data on the actual volume of trading on world foreign currency markets In the spring of 1986, the Federal Reserve Bank of New York along with others started surveying the