International Business Exam 3

(1918 - 1939: Isolation Period)

- The gold standard worked fairly well from the 1870s until the start of World War I - After the war countries started regularly devaluing their currencies to try to encourage exports - Confidence in the system fell, and people began to demand gold for their currency putting pressure on countries' gold reserves, and forcing them to suspend gold convertibility - The Gold Standard ended in 1939

The world's four major trading currencies include all of the following except _____.

Canadian dollar

_____ involves the short-term movement of funds from one currency to another with the hope of making a profit from shifts in the exchange rate.

Currency speculation

Oldest Free Trade Area?

European Free Trade Area (EFTA)

When a U.S. tourist in Edinburgh goes to a bank to convert her dollars into pounds, the exchange rate is the forward exchange rate.

False

Economic Growth

Lower prices, specialization, technology improvement, and management know-how

Political Stability / Political Instability

Making them more dependent on each other forming structure where they have to interact

The Economist has selected the ________ as a proxy for a "basket of goods" because it is produced according to the same basic recipe in about 120 countries.

McDonald's Big Mac

Interest rates (direct relationship)

Reflect expectations about likely future inflation rates -Fisher effect

MERCOSUR (Southern Common Market)

South American free trade area

Council of the European Union

The EU's primary policy-setting institution

Court of Justice

The supreme appeals court for EU law

An exchange rate is simply the rate at which one currency is converted into another.

True

Under the Bretton Woods system, which currency served as the base currency?

U.S. Dollar

Currency ____ can be described most simply as buying low and selling high.

arbitrage

_____ occurs when there is a rush to convert domestic currency into foreign currency.

capital flight

capital flight

converting domestic currency into a foreign currency

fixed exchange rate

countries fix their currencies against each other at a mutually agreed upon value

Currency conversion

each country has a currency in which the prices of goods and services are quoted

dirty float rate

exists when the value of a currency is determined by market forces, but with central bank intervention if it depreciates too rapidly against an important reference currency

Pegged exchange rate

exists when the value of a currency is fixed to a reference country and then the exchange rate between that currency and other currencies is determined by the reference currency exchange rate

Forward exchange rate

governing a forward exchange transaction

The two main functions of the Foreign Exchange Market include currency conversion and _____.

hedging

externally convertible

limitations on the ability of residents to convert domestic currency, though nonresidents can convert their holdings of domestic currency into foreign currency

Bandwagon effect

movement of traders like a herd, all in the same direction and at the same time, in response to each other's perceived actions

A major advantage of a floating exchange rate is:

national monetary policy autonomy

An increase in money supply typically leads to an increase in _____.

price inflation

Currency Swap

simultaneous purchase and sale of a given amount of foreign exchange for two different value dates

Gold standard

the practice of pegging currencies to gold and guaranteeing convertibility

Arbitrage

the purchase of securities in one market for immediate resale in another to profit from a price discrepancy

Exchange rate

the rate at which one currency is converted into another

Investor psychology

various psychological factors play an important role in determining the expectations of market traders as to likely future exchange rates

Freely convertible

when a government of a country allows both residents and non-residents to purchase unlimited amounts of foreign currency with the domestic currency

Current account balances

x > M then ^ C & opposite

Indirect quote

(base currency) - stated second $ / E 1.20 It is the E 1.20

Direct quote

(quoted currency) - stated first $1.20 / E It is the $

What are the 5 levels of economic integration?

1. Free Trade Area 2. Customs Union 3. Common Market 4. Economic Union 5. Political Union

What are the 3 factors that affect movement?

1. Price inflation 2. Law of one price 3. Purchasing power parity

According to the Bretton Woods Agreement, no government could devalue their currency by more than _____ percent.

10

Customs Union

A group of countries committed to (1) removing all barriers to the free flow of goods and services between each other and (2) the pursuit of a common external trade policy.

Common Market

A group of countries committed to (1) removing all barriers to the free flow of goods, services, and factors of production between each other and (2) the pursuit of a common external trade policy.

Economic Union

A group of countries committed to (1) removing all barriers to the free flow of goods, services, and factors of production between each other, (2) the adoption of a common currency, (3) the harmonization of tax rates, and (4) the pursuit of a common external trade policy.

Free Trade Area

A group of countries committed to removing all barriers to the free flow of goods and services between each other, but pursuing independent external trade policies.

Purchasing power parity

An adjustment in gross domestic product per capita to reflect differences in the cost of living

The collapse of the exchange rate system established in Bretton Woods can be traced to:

U.S. macroeconomic policy. - The U.S. printed money to finance the Vietnam War and welfare programs, leading to significant inflation.

The simultaneous purchase and sale of a given amount of foreign exchange for two different value dates is called a _____.

currency swap

European Parliament

debates legislation proposed by the commission and forwarded to it by the council - Treaty of Lisbon (increased power)

Floating exchange rate

exists where the foreign exchange market determines the relative value of a currency

After the collapse of the Bretton Woods system, a ____ exchange rate system was agreed upon by the IMF members.

floating

From the 1870s until the start of WWII, the _____ Standard was the method of foreign currency exchange.

gold

A(n) ____ is an investment fund that not only buys financial assets but also sells them short.

hedge fund

When the growth in a country's money supply is faster than the growth in its output, _____ is fueled.

inflation

When the growth in the money supply is greater than the growth in output will lead to...

inflation

Pegged exchange rates are popular among many of the world's _____ nations. industrialized nations. b. largest nations. c. smaller nations. d. communist nations.

smaller

nonconvertible

when both residents and non-residents are prohibited from converting their holdings of domestic currency into a foreign currency

A major advantage of the fixed exchange rate system is:

it limits the destabilizing effects of speculation.

Gold par value

the amount of a currency needed to purchase one ounce of gold

Price inflation:

If we can predict inflation rates, we can predict how a currency's value might change. The growth of a country's money supply determines its likely future inflation rate.

Law of one price

In competitive markets free of transportation costs & barriers to trade, identical products sold in different countries must sell for the same price when their price is expressed in same currency

(Implied - Actual) / Actual =

Law of one price

Insuring Against Foreign Exchange Risk

Possibility that unpredicted changes in the future exchange rates will have adverse consequences for the firm

Cross rate

Rate not using the dollar as one of the currencies

European Commission

Responsible for proposing EU legislation, implementing it, and monitoring compliance - each state gets one commissioner

Big Mac Index (burgernomics)

Selected as a proxy for a "basket of goods" because it's produced according to more or less the same recipe in about 120 countries. Big Mac PPP is the exchange rate that would have hamburgers costing same in each country

Trade Creation / Trade Diversion

Trade creation occurs when low cost producers within the free trade area replace high cost domestic producers. Trade diversion occurs when higher cost suppliers within the free trade area replace lower cost external suppliers. A regional free trade agreement will only make the world better off if the amount of trade it creates exceeds the amount it diverts.

Political Union

a central political apparatus coordinates economic, social, and foreign policy

Spot exchange rate

a foreign exchange dealer will convert one currency into another that particular day

Economic integration

agreements among countries in a geographic region to reduce and ultimately remove tariff and non tariff barriers to the free flow of goods, services, and factors of production between each other