Foreign exchange market (Иностранный обменный рынок)
Contents
I. Introduction 2
II. The structure of the foreign exchange market 3
1. What is the foreign exchange? 3
2. The participants of the foreign exchange markets 4
3. Instruments of the foreign exchange markets 5
III. Foreign exchange rates 6
1. Determining foreign exchange rates 6
2. Supply and Demand for foreign exchange 7
3. Factors affecting foreign exchange rates 11
IV. Conclusion 13
V. Recommendations 14
VI. Literature used 16
Introduction
Trade and payments across national borders require that one of the
parties to the transaction contract to pay or receive funds in a foreign
currency. At some stage, one party must convert domestic money into foreign
money. Moreover, knowledgeable investors based in each country are aware of
the opportunities of buying assets or selling debts denominated in foreign
currencies when the anticipated returns are higher abroad or when the
interest costs are lower. These investors also must use the foreign
exchange market whenever they invest or borrow abroad.
I’d like to add that the foreign exchange market is the largest market
in the world in terms of the volume of transactions. That the volume of
foreign exchange trading is many times larger than the volume of
international trade and investment reflects that a distinction should be
made between transactions that involve only banks and those that involve
banks, individuals, and firms involved in international trade and
investment.
The phenomenal explosion of activity and interest in foreign exchange
markets reflects in large measure a desire for self-preservation by
businesses, governments, and individuals. As the international financial
system has moved increasingly toward freely floating exchange rates,
currency prices have become significantly more volatile. The risks of
buying and selling dollars and other currencies have increased markedly in
recent years. Moreover, fluctuations in the prices of foreign currencies
affect domestic economic conditions, international investment, and the
success or failure of government economic policies. Governments,
businesses, and individuals involved in international affairs find it is
more important today than ever before to understand how foreign currencies
are traded and what affects their relative values.
In this work, we examine the structure, instruments, and price-
determining forces of the world's currency markets.
The structure of the foreign exchange market
What is the foreign exchange?
The foreign exchange markets are among the largest markets in the
world, with annual trading volume in excess of $160 trillion. The purpose
of the foreign exchange markets is to bring buyers and sellers of
currencies together. It is an over-the-counter market, with no central
trading location and no set hours of trading. Prices and other terms of
trade are determined by negotiation over the telephone or by wire,
satellite, or telex. The foreign exchange market is informal in its
operations: there are no special requirements for market participants, and
trading conforms to an unwritten code of rules.
You know that almost every country has its own currency for domestic
transactions. Trading among the residents of different countries requires
an efficient exchange of national currencies. This is usually accomplished
on a large scale through foreign exchange markets, located in financial
centers such as London, New York, or Paris—in order of importance—where
exchange rates for convertible currencies are determined. The instruments
used to effect international monetary payments or transfers are called
foreign exchange. Foreign exchange is the monetary means of making payments
from one currency area to another. The funds available as foreign exchange
include foreign coin and currency, deposits in foreign banks, and other
short-term, liquid financial claims payable in foreign currencies. An
international exchange rate is the price of one (foreign) currency measured
in terms of another (domestic) currency. More accurately, it is the price
of foreign exchange. Since exchange rates are the vehicle that translates
prices measured in one currency into prices measured in another currency,
changes in exchange rates affect the price and, therefore, the volume of
imports and exports exchanged. In turn the domestic rate of inflation and
the value of assets and liabilities of international borrowers and lenders
is influenced. The exchange rate rises (falls) when the quantity demanded
exceeds (is less than) the quantity supplied. Broadly speaking, the
quantity of U.S. dollars supplied to foreign exchange markets is composed
of the dollars spent on imports, plus the amount of funds spent or invested
by U.S. residents outside the United States. The demand for U.S. dollars
arises from the reverse of these transactions.
Many newspapers keep a daily record of the exchange rates in the
highly organized foreign exchange market, where currencies of different
nations are bought and sold. For instance, the Wall Street Journal shows
the price of a currency in two ways: first the price of the other currency
is given in U.S. dollars, and second the price of the U.S. dollar is quoted
in units of the other currency. Pairs of prices represent reciprocals of
each other. These rates refer to trading among banks, the primary
marketplace for foreign currencies.
2. The participants of the foreign exchange markets
The foreign exchange market is extremely competitive so there are many
participants, none of whom is large relative to the market.
The central institution in modern foreign exchange markets is the
commercial bank. Most transactions of any size in foreign currencies
represent merely an exchange of the deposits of one bank for the deposits
of another bank. If an individual or business firm needs foreign currency,
it contacts a bank, which in turn secures a deposit denominated in foreign
money or actually takes delivery of foreign currency if the customer
requires it. If the bank is a large money center institution, it may hold
inventories of foreign currency just to accommodate its customers. Small
banks typically do not, hold foreign currency or foreign currency-
denominated deposits. Rather, they contact large correspondent banks, which
in turn contact foreign exchange dealers.
The major international commercial banks act as both dealers and
brokers. In their dealer role, banks maintain a net long or short position
in a currency, and seek to profit from an anticipated change in the
exchange rate. (A long position means their holdings of assets denominated
in one currency exceed their liabilities denominated in this same
currency.) In their broker function, banks compete to obtain buy and sell
orders from commercial customers, such as the multinational oil companies,
both to profit from the spread between the rates at which they buy foreign
exchange from some customers and the rates at which they sell foreign
exchange to other customers, and to sell other types of banking services to
these customers.
Frequently, currency-trading banks do not deal directly with each
other but rely on foreign exchange brokers. These firms are in constant
communication with the exchange trading rooms of the world's major banks.
Their principal function is to bring currency buyers and sellers together.
Security brokerage firms, commodity traders, insurance companies, and
scores of other nonbank companies have come to play a growing role in the
foreign exchange markets today. These Nonbank Financial Institutions have
entered in the wake of deregulation of the financial marketplace and the
lifting of some foreign controls on international investment, especially by
Japan and the United Kingdom. Nonbank traders now offer a wide range of
services to international investors and export-import firms, including
assistance with foreign mergers, currency swaps and options, hedging
foreign security offerings against exchange rate fluctuations, and
providing currencies needed for purchases abroad.
In main all participants of an exchange market are usually divided on
two groups. The first group of participants is called speculators; by
definition, they seek to profit from anticipated changes in exchange rates.
The second group of participants is known as arbitragers. Arbitrage refers
to the purchase of one currency in a certain market and the sale of that
currency in another market in response to differences in price between the
two markets. The force of arbitrage generally keeps foreign exchange rates
from getting too far out of line in different markets.
3. Instruments of the foreign exchange markets
. Cable and Mail Transfers
Several financial instruments are used to facilitate foreign exchange
trading. One of the most important is the cable transfer, an execute order
sent by cable to a foreign bank holding a currency seller's account. The
cable directs the bank to debit the seller's account and credit the account
of a buyer or someone the buyer designates.
The essential advantage of the cable transfer is speed because the
transaction can be carried out the same day or within one or two business
days. Business firms selling their goods in international markets can avoid
