International Business Exam 3

Common Market

- No barriers to trade between member countries, a common external trade policy, and the free movement of the factors of production• - Requires significant harmony among members in fiscal, monetary, and employment policies

forward exchange rate

- The exchange rates governing forward exchange transactions - are typically quoted for 30, 90, or 180 days into the future

factors for forward exchange rate movement

- a country's price inflation - a country's interest rate - market psychology

Customs union

- eliminates trade barriers between member countries and adopts a common external trade policy - most countries that enter a customs union desire further integration in the future

benefits of euro

-savings from having to handle one currency, rather than many -it is easier to compare prices across Europe, so firms are forced to be more competitive -gives a strong boost to the development of highly liquid pan-European capital market -increases the range of investment options open both to individuals and institutions

Impediments to Integration

1.) It can be costly - while a nation as a whole may benefit from a regional free trade agreement, certain groups may lose. 2.) It can result in a loss of national sovereignty

Assume that the exchange rate between the euro and the dollar is €1.00 = $1.50. An American tourist in Germany is buying a product whose price is €80. How much in U.S. dollars would the tourist have to pay to buy the product?

120

Andean Community

A 1969 agreement among Bolivia, Chile, Ecuador, Colombia, and Peru to establish a customs union

Single European Act

A 1997 act, adopted by members of the European Community, that committed member countries to establishing an economic union

Freely Convertible Currency

A country's currency is freely convertible when the government of that country allows both residents and nonresidents to purchase unlimited amounts of foreign currency with the domestic currency.

European Free Trade Association

A free trade association including Norway, Iceland, and Switzerland.

Purchasing Power Parity

A monetary measurement of development that takes into account what money buys in different countries.

Dirty Float System

A system under which a country's currency is nominally allowed to float freely against other currencies, but in which the government will intervene, buying and selling currency, if it believes that the currency has deviated too far from its fair value.

Central American Common Market

A trade pact among Costa Rica, El Salvador, Guatemala, Honduras, and Nicaragua, which began in the early 1960s but collapsed in 1969 due to war.

Regional Economic Integration

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

Free Trade Area

All barriers to the trade of goods and services among member countries are removed, but members determine their own trade policies with regard to nonmembers

Treaty of Lisbon

An EU sanctioned treaty that will allow the European Parliament to become the co-equal legislator for almost all European laws

CARICOM

An association of English-speaking Caribbean states that are attempting to establish a customs union.

Lead Strategy

Collecting foreign currency receivables early when a foreign currency is expected to depreciate, and paying foreign currency payables before they are due when a currency is expected to appreciate.

Brett Thiesen wants to make a political case for regional economic integration to his electorate. Which valid statement can he make in this regard?

Countries can enhance their political weight in the world by grouping their economies.

Lag Strategy

Delaying the collection of foreign currency receivables if that currency is expected to appreciate, and delaying payables if that currency is expected to depreciate.

European Monetary System

EU system designed to create a zone of monetary stability in Europe, control inflation, and coordinate exchange rate policies of EU countries.

From mid-2008 through early 2009, the dollar's value moderately increased against major currencies, despite the fact that the American economy was suffering from a serious financial crisis. What caused this phenomenon?

Foreign investors put their money in low-risk U.S. assets such as low-yielding U.S. government bonds.

Association of Southeast Asian Nations (ASEAN)

Formed in 1967, an attempt to establish a free trade area among Brunei, Cambodia, Indonesia, Laos, Malaysia, Myanmar, the Philippines, Singapore, Vietnam, and Thailand.

North American Free Trade Agreement (NAFTA)

Free trade area among Canada, Mexico, and the United States

Which country has been granted three bailout efforts by the EU in an attempt to prevent a sovereign debt crisis?

Greece

law of one price

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

The Bretton Woods agreement created which two multinational institutions?

International Monetary Fund and the World Bank

What is a result of a banking crisis?

It leads to individuals and companies withdrawing their deposits from banks.

The foreign exchange trading center in ________ has the highest percentage of activity.

London

currency board

Means of controlling a country's currency

________ is a pact among Argentina, Brazil, Paraguay, and Uruguay to establish a free trade area.

Mercosur

Central American Free Trade Agreement (CAFTA)

The agreement of the member states of the Central American Common Market joined by the Dominican Republic to trade freely with the United States.

The U.S. dollar is selling at a discount on the 30-day forward market when what is taking place?

The current spot exchange rate is $1 = ¥120 and the 30-day forward rate is $1 = ¥110 after 30 days.

Translation Exposure

The extent to which the reported consolidated results and balance sheets of a corporation are affected by fluctuations in foreign exchange values.

exchange rate

The measure of how much one currency is worth in relation to another.

Carribean Single Market and Economy (CSME)

The six CARICOM members that agreed to lower trade barriers and harmonize macroeconomic and monetary policies

United States-Mexico-Canada Agreement (USMCA)

This is a regional trade agreement between the United States, Canada and Mexico that is designed to replace NAFTA. The agreement has been signed by the leaders of all three countries, but at the time of publication has not yet been ratified by the legislatures of those countries.

Trade Diversion

Trade diverted due to regional economic integration; occurs when low-cost foreign suppliers outside a free trade area are replaced by higher-cost suppliers within a free trade area.

Maastricht Treaty

Treaty agreed to in 1992, but not ratified until January 1, 1994, that committed the 12 member states of the European Community to a closer economic and political union.

The investment manager at AllRight Time Inc. reminds the board that the foreign exchange market is a mixed system. The investment manager wants the board to realize that rates are driven by

a combination of government intervention and speculative activity.

Dolarization

a country abandons its own currency and adopts another

Fisher effect

a country's nominal interest rate (i) is the sum of the required real rate of interest (r) and the expected rate of inflation over the period for which the funds are to be lent (I)

Rae feels it is best for her company to pay their foreign supplier in Panama this month even though they will receive product for another six months. She recently learned that the currency in Panama is expected to appreciate and, by paying the supplier now, her company will save money. This is an example of

a lead strategy

Banking Crisis

a loss of confidence in the banking system that leads to a run on banks, as individuals and companies withdraw their deposits

optimal cost area

an area where similarities in the underlying structure of economic activities make it feasible to adopt a single currency and use a single exchange rate as an instrument of macro-economic policy

A(n) ________ has no impediments to the free flow of goods and services, such as trade barriers.

an efficient market

Under the U.S. macroeconomic policy package of 1965-1968, President Lyndon Johnson backed an increase in U.S. government spending that was financed by

an increase in the money supply.

Kendall Wood Products Corp. purchased securities on the London Stock Exchange and then immediately resold them on the New York Stock Exchange at a higher price. The profits from this transaction were used to buy new machinery for the mill. This company engaged in

arbitrage

A country in South America is adversely affected by trade deficits and the government wants to move to a floating exchange rate system to help adjust trade imbalances. However, a political group is opposing this. As critics of floating exchange rates, they claim that trade deficits are determined by the

balance between savings and investment in a country.

Under the gold standard, gold flows reduce the money supply in one nation when another nation experiences a trade surplus. The nation with a trade surplus has a swell in the money supply, which leads to price increases. At the same time, the nation with a reduction in the money supply will cause prices to fall. The lower prices create more demand for product from the nation with a reduction in the money supply, which leads to a

balance of trade

A country is said to be in _____ when the income its residents earn from exports is equal to the money its residents pay to other countries for imports

balance-of-trade equilibrium

Jin-Lo is investing money for his company. He notices that the interest rate on borrowing in Jakarta is 2 percent and the interest rate on bank deposits in Warsaw is 7.5 percent. In this situation, a carry trade would occur when Jin-Lo

borrows money in Jakarta currency, converts it into Warsaw currency, and deposits it in a Warsaw bank.

Carry Trade

borrows one currency where interest rates are low and invests these in another currency where interest rates are high

Assume that the interest rate on borrowings in Argentina is 3 percent, but the interest rate on deposits in British banks is 9 percent. A trader borrows 1 million Argentine pesos, then converts the money into British pounds and deposits it in a British bank. What is the trader involved in?

carry trade

The European Parliament is described as a(n) _____ body.

consultive

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

Three Latin American countries enter into an agreement to remove all tariffs and trade barriers between them. They decide on a common external trade policy and charge the same tariffs. Which level of economic integration best describes this arrangement?

customs union

European Parliament

debates legislation proposed by the commission and forwarded to it by the council

The European Free Trade Association initially consisted of member nations that

decided not to be part of the European Community.

In a floating exchange rate system, a current account deficit is likely to be corrected by

depreciation in its exchange rates

One aspect of the Bretton Woods agreement was a commitment not to use ________ as a measure to fix the value of currencies.

devaluation

The government of an Asian country allows its currency to nominally float freely against other currencies, but the government has the right to intervene, buying and selling currency, if it believes that the currency has deviated too far from its fair value. What this country is doing is called a ________ float.

dirty

A(n) _____ system refers to one in which a country's currency is nominally allowed to float freely against other currencies but in which the government will intervene, buying and selling currency, if it believes that the currency has deviated too far from its fair value.

dirty float

SportLife Drinks, a multinational soft drink brand, has been facing huge economic losses due to unpredictable exchange rate movements. In order to gain considerable immunity against such currency fluctuations, SportLife Drinks should

disperse production to different locations around the globe.

The executive managers of Drum-de-Drum-drum, a U.S.-based percussion equipment manufacturer, want to reduce the vulnerability of the company to unpredictable exchange rate movements. What would provide the company with a hedge against currency fluctuations?

dispersing production to different locations around the globe

The harmonization of member nations' tax rates is required to form a(n)

economi union

The extent to which a firm's future international earning power is affected by changes in exchange rates is known as

economic exposure

All International Monetary Fund (IMF) loan packages come with conditions attached which limits

excessive government spending and debt.

The purchasing power parity puzzle represents the failure to find a strong link between relative inflation rates and

exchange rate movements

pegged exchange rate system

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

floating exchange rate system

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

International Fisher Effect

for any two countries, the spot exchange rate should change in an equal amount but in the opposite direction to the difference in nominal interest rates between the two countries

When Norway, Iceland, Liechtenstein, and Switzerland were joined by the EFTA, all barriers to the free flow of goods and services between the countries were removed. Member nations are allowed to determine the level of trade protection for goods coming from all other nations.What level of economic integration does this represent?

free trade area

Identify the correct sequence of economic integration starting from the least integrated to the most integrated

free trade area, customs union, common market, economic union, and political union

Due to a variety of macroeconomic and microeconomic factors, two Eastern European nations suffered permanent adverse shifts in the demand for their manufactured goods. Per the IMF's Articles of Agreement, these nations suffered from a

fundamental disequilibrium.

As an investor studying the gold standard, Kyle knows that he would need 44 euros to purchase one ounce of gold. These 44 euros represent the

gold par value

How did President Trump react to the two multilateral trade agreements, the Trans-Pacific Partnership and the Transatlantic Trade and Investment Partnership, that were being pursued by the Obama administration?

he pulled the US out of these negociations

The World Bank's initial mission was to

help finance the building of Europe's economy by providing low-interest loans.

One reason the British electorate voted to exit the European Union is because of an increase in ________ within Europe.

immigration

One reason for the failure of purchasing power parity theory and international Fisher effect in predicting short-term movements in exchange rates is due to the

impact of investor psychology on short-run exchange rate movements.

The law of one price states that

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

According to the _____, for any two countries, the spot exchange rate should change in an equal amount but in the opposite direction to the difference in nominal interest rates between the two countries.

international fisher effect

economic union

involves the free flow of products and factors of production between members, the adoption of a common external trade policy, and in addition, a common currency, harmonization of the member countries' tax rates, and a common monetary and fiscal policy

International Monetary Fund

is the institutional arrangement that govern exchange rates

Agri-Cor sells farm equipment throughout the eurozone. The company has noticed that some customers travel to countries where equipment sells for less to obtain a better deal. What implication of adopting the euro as a common currency does this situation demonstrate?

it makes it easier to compare prices across europe

Carlos is the manager of an American company. He expects the value of the British pound to appreciate in the near future and so delays the collection of payments from British customers until the next month. Which tactic is Carlos using to minimize the foreign exchange exposure?

lag strategy

Externally Convertible Currency

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

What is one main impediment to regional economic integration?

loss of national sovereignty

According to the Bretton Woods agreement, the task of the IMF would be to

maintain order in the international monetary system.

The price of a bouquet of tulips in France is 4 euros. Jenna Algren, a frequent international traveler, found that a similar bouquet of tulips cost only 3 euros in Belgium. This demonstrates that the benefit of adopting the euro as a common currency is that it

makes it easier to compare prices across europe

Foriegn exchange market

market in which currencies are bought and sold and their prices determined

efficient markets

markets in which few impediments to international trade and investment exist

What happens to the value of money when hyperinflation exists?

money loses value very rapidly

TransWare Inc., based in Atlanta, has a plant in Russia that builds road equipment. Each year this plant has been profitable, but TransWare Inc. is not able to convert the profits into U.S. dollars and take them out of the country. What type of convertibility does this represent?

nonconvertible

bandwagon effect

occurs when expectations on the part of traders turn into self-fulfilling prophecies, and traders join the bandwagon and move exchange rates based on group expectations

forward exchange

occurs when two parties agree to exchange currency and execute the deal at some specific date in the future

inefficient market

one in which prices do not reflect all available information

Moral Hazard

people behave recklessly because they know they will be saved if things go wrong

currency swaps

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

managed float system

system under which some currencies are allowed to float freely, but the majority are either managed by government intervention or pegged to another currency

Treaty of Rome

the 1957 treaty that established the European Community

foreign exchange risk

the adverse consequences of unpredictable changes in exchange rates

An economist would say that the benefits of regional integration are determined by

the amount of trade creation

A currency is considered freely convertible when

the country's government allows both residents and nonresidents to purchase unlimited amounts of a foreign currency with it.

Assume that the dollar is selling at a premium on the 30-day dollar/euro forward market. What is true of the foreign exchange dealers' market's expectations about the dollar over the next 30 days?

the dollar will appreciate against the euro

spot exchange rate

the exchange rate at which a foreign exchange dealer will convert one currency into another that particular day

Economic Exposure

the extent to which a firm's future international earning power is affected by changes in exchange rates

Transaction Exposure

the extent to which the income from individual transactions is affected by fluctuations in foreign exchange values

When a country adopts a strict currency board system, it means that

the government lacks the ability to set interest rates.

Translation exposure refers to the

the impact of currency exchange rate changes on the reported financial statements of a company

political union

the integration of political and economic affairs of a region

How are spot exchange rates determined?

the interaction between demand and supply of a currency relative to other currencies

Gold Standard

the practice of pegging currencies to gold and guaranteeing convertibility

Arbitage

the process of buying a currency low and selling it high

currency speculation

the short-term movement of funds from one currency to another in the hopes of profiting from shifts in exchange rates

Countertrade

the trade of goods and services for other goods and services

Eurpean Council

the ultimate controlling authority within the EU

The creation of a single market increases price competition for businesses. In other words, it creates a(n)

threat

After the creation of a free trade area involving five nations, higher cost external fabric producers were replaced by lower-cost external fabric producers within the free trade area. This is known as

trade creation

Two eastern European countries formed a free trade agreement. As a result, one of the countries that used to produce its own plastic bottles at a higher cost now imports them from the other country at a lower cost. This is an example of

trade creation

The practices of the European Central Bank are similar to the

united states federal reserve

What caused the Central American Common Market to collapse in 1969?

war between Honduras and El Salvador after a riot at a soccer match between teams from the two countries

currency crisis

Occurs when a speculative attack on the exchange value of a currency results in a sharp depreciation in the value of the currency or forces authorities to expend large volumes of international currency reserves and sharply increase interest rates to defend the prevailing exchange rate.

European Commission

Responsible for proposing EU legislation, implementing it, and monitoring compliance

foreign debt crisis

Situation in which a country cannot service its foreign debt obligations, whether private-sector or government debt

Court of Justice

Supreme appeals court for EU law