ppt of financial market

7/29/2019 ppt of financial market

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Chapter 7

Financial Markets


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Learning Objectives

To understand how currencies are traded andquoted on world financial markets

To examine the links between interest rates

and exchange ratesTo understand the similarities and differencesbetween domestic sources of capital andinternational sources of capital

To examine how the needs of individual borrowers

have changed the nature of the instruments tradedon world financial markets in the past decade

To understand how the debt crises of the 1980sand 1990s are linked to the international financialmarkets and exchange rates


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The Market for CurrenciesThe price of any onecountrys currency in terms

of another countryscurrency is called a foreigncurrency exchange rate

Every market, every country,and every firm may have itsown set of currency symbols


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Direct and Indirect

QuotationsMost currencies are quoted in directquotes versus the U.S. dollar

The major exceptions are currenciesassociated with the BritishCommonwealth and the European euro

When an exchange rate of a currency isstated without using the U.S. dollar as areference, it is referred to as a crossrate


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Foreign Currency Market

StructureThe market for foreigncurrencies is a worldwide

market that is informal instructure

The market is actually thethousands of

telecommunications linksamong financial institutionsaround the globe and it isopen nearly 24 hours a day


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Market Size and Composition

Until recently there was little data on theactual volume of trading on world foreigncurrency markets

In the spring of 1986, the Federal ReserveBank of New York along with others startedsurveying the activity of currency tradingevery three years

Growth of foreign currency trading has been

nothing less than astronomicalThe majority of the worlds trading in foreigncurrencies is still taking place in the citieswhere international financial activity iscentered, London, New York, and Tokyo


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Market Size and Composition

Three reasons typically given forthe enormous growth in foreign

currency trading are:Deregulation of international capital flows

Gains in technology and transaction costefficiency

The world is a risky place


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The Purpose of Exchange

RatesIf countries are to trade,they must be able to

exchange currenciesThe exchange of onecountrys currency for

another should berelatively simple, but itsnot


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What is a Currency Worth?The exchange ratebetween currenciesshould equalize itspurchasing power

The theory ofpurchasing powerparity (PPP)is

simply the rate thatequalizes the price ofthe identical productor service in twodifferent currencies

The version ofpurchasing powerparity that estimatesthe exchange ratebetween twocurrencies using justone good or serviceas a measure of theproper exchange forall goods andservices is called theLaw of One Price


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Monetary Systems of the

20th CenturyMixed/fixed floatingexchange rate system is

in operation today

Prior to this, the GoldStandardwas in effect

Prior to that, the BrettonWoods Agreementwas ineffect


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The Gold StandardThe gold standard began sometime inthe 1880s

It was premised on three basic ideas:A system of fixed rates of exchange existedbetween participating countries

Money issued by member countries had to bebacked by gold reserves

Gold acted as an automatic adjustment

Under this standard, each countryscurrency would be set in value perounce of gold


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The Bretton Woods Agreement

The governments of 44 of the Allied Powersgathered together in Bretton Woods, NewHampshire in 1944 to plan for the postwarinternational monetary system

This agreement called for the following:Fixed exchange rates between member countries

The establishment of a fund of gold and currencies forstabilization of their currencies, the International

Monetary FundThe establishment of a bank, the World Bank, thatwould provide funding for long-term developmentprojects


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Floating Exchange RatesSince March 1973, the worldsmajor currencies have floated

in value versus each otherThe inability of a country tocontrol the value of itscurrency on world markets

has been a harsh reality formost

Direct intervention

Coordinated intervention


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The EuroOn December 31,1998, the final fixedrates between the 11currencies and theeuro were put intoplace

On January 1,

1999,the eurowasofficially launched asa single currency forthe European Union

The monetary policyfor the EMU will beconducted by theEuropean CentralBank (ECB) and hasa singleresponsibility ofsafeguarding thestability of the euro

On January 4, 1999,the euro begantrading on world

currency markets


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International Money

MarketsInternational money markets,often termed the Eurocurrency

markets, constitute anenormous financial marketthat is in many ways outsidethe jurisdiction and

supervision of world financialand governmental authorities


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Eurocurrency Markets and

Eurocurrency Interest RatesA Eurocurrency isany foreign

currencydenominateddeposit oraccount at a

financialinstitution outsidethe country of thecurrencys issue

While there arehundreds of

different majorinterest ratesaround the globe,the international

financial marketsfocus on theinterbank interestrates


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Defining International

FinancingThe definition of what constitutesan international financialtransaction is dependent on twocharacteristics:

Whether the borrower is domestic or

foreignWhether the borrower is raising capitaldenominated in the domestic currency or aforeign currency


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Defining International

Financing

The two characteristics that define

an international financialtransaction form four categories:

Domestic borrower/domestic currency

Foreign borrower/domestic currencyDomestic borrower/foreign currency

Foreign borrower/foreign currency


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Structure of International

Banking

Correspondent bank: an

unrelated bank based ina foreign country

Representative bank:basically a sales officefor a bank


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The International Bond

Market

The international bondmarket

provides the bulk of financingForeign bonds

Eurobonds

Bearer bonds


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Private PlacementsOne of the largest andunpublicized capital

marketsA private placement isthe sale of debts orequity to a largeinvestor

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