Chapter 18 Questions

Conditions that must be present for absolute purchasing power to exist include which of the following?

- there must be no trade barriers - the goods must be identical

Gilts are securities issued by the ___.

British and Irish governments

British and ____ governments issue gilts.

Irish

What is the acronym for the interest rate most international banks charge one another for overnight Eurodollar loans?

LIBOR

T/F: A security issued in the United States representing shares of a foreign stock is called a Stars and Stripes Issue.

false

T/F: Political risk refers only to problems for U.S. companies caused by foreign governments.

false

The interest rate most international banks charge one another for overnight Eurodollar loans is the ____ Interbank Offer Rate.

London

An agreement to exchange currencies at a future point in time at an exchange rate that is agreed upon today is called ____.

a forward trade

What are some strategies for hedging long-term exchange rate risk?

matching foreign currency inflows and outflows

The natural consequences of international operations in a world where relative currency values move up and down is called ____.

exchange rate risk

T/F: When a U.S. company calculates its accounting net income, it must report all income, including income from foreign operations, in dollars. This leads to transaction exposure to exchange rate risk.

false

The exchange rate in an agreement to exchange currency at some time in the future is called the _____ rate.

forward

The use of _______ exchange agreements can help reduce the short-term exposure to exchange rate risk.

forward

T/F: For absolute PPP to hold, there must be no trade barriers such as tariffs, taxes, or political barriers.

true

A US corporation can reduce political risk in a foreign country by which of the following ways?

use local financing

An agreement to trade currencies within two business days at today's exchange rate is called a ___.

spot trade

When a U.S. company calculates its accounting net income, it must report all income, including income from foreign operations, in dollars. This leads to ___ exposure to exchange rate risk.

translation

If the Japanese Yen is less expensive in the forward market than it is today, it is said to be selling at a(n) ______.

discount

The day-to-day fluctuations in exchange rates create ___.

short-term exchange rate risk exposure

Almost all currency trading takes place in terms of the ___.

U.S. dollar

Short-term exposure to exchange rate risk can be reduced by importing raw materials and using ____ contracts.

forward

The foreign exchange market is where ____.

one country's currency is traded for another country's currency

Relative PPP implies that the change in an exchange rate is driven by the difference in the ______________ of the two countries involved

inflation rates

A foreign bond refers to a bond:

that is issued in a single country, denominated in the currency of that country

Match the international corporate finance terminology below with its correct definition.

- ADR -> a security issued in the US that represents shares of a foreign stock - Cross-rate -> the implicit exchange rate between two currencies quoted in a third currency - Eurobond -> a bond issued in multiple countries but denominated in a single currency - Eurocurrency -> money deposited in a financial center outside of the country with the involved currency

Match the following currencies to their country of origin.

- India -> rupee - Japan -> Yen - Mexico -> peso - Canada -> dollar - United Kingdom -> pound - Switzerland -> franc

The different types of exchange rate risk include which of the following?

- Long-term exposure - Translation exposure - Short-term exposure

An interest rate swap involves swapping a ________ payment for a _______ payment.

- fixed rate; floating rate - floating rate; fixed rate

Users of the foreign exchange market include ___.

- importers who pay for goods using foreign currencies - foreign exchange brokers who match buy and sell orders - speculators who try to profit from change in exchange rates

Currency _______ occurs when the value of the dollar rises and it takes more foreign currency to buy a dollar.

appreciation

Changes in value due to the actions of governments is referred to as ______ risk.

political

The concept that exchange rates adjust to keep purchasing power constant among currencies is referred to as ___.

purchasing power parity

The implicit exchange rate between two currencies when both are quoted in a third currency is called the ____.

cross-rate

The foreign exchange market allows for the trading of ______.

currencies

Relative purchasing power parity tells us that the exchange rate will rise if the US inflation rate is lower than that of a foreign country. The foreign currency will ______ in value relative to the US dollar.

depreciate

Interest rate parity ___.

eliminates covered interest arbitrage opportunities

A bond issued in multiple countries but denominated in a single currency is a ____.

eurobonds

If US dollars are deposited in banks outside the US banking system, they are referred to as:

eurodollars

T/F: An interest rate swap occurs when two parties exchange a sub-par loan for a market-rate loan.

false

The world's largest financial market is the:

foreign exchange market

In covered interest arbitrage, investors protect themselves against changes in exchange rates by locking in the ____.

forward exchange rate

The management of exchange rate risk should probably be centralized so that the firm has an understanding of ___.

its overall positions in foreign currency

If an international firm borrows money in the foreign country where it has operations it can reduce ___.

long-run exchange rate exposure

Unanticipated changes in relative economic conditions that affect the value of a foreign operation are known as ___.

long-term exposures to exchange rate risk

Alpha Co. imports raw materials and uses forward contracts to reduce which of the following risks?

short-run exposure to exchange rate risk

A Eurobond refers to a bond:

that is issued in multiple countries, usually denominated in the currency of the issuer's country

A cross-rate between two foreign currencies is usually quoted in what currency?

the US dollar

When it is reported that the dollar is stronger in the foreign exchange market it means that ___.

the dollar is more valuable and can buy more of other currencies

T/F: If purchasing power parity did not hold, it would be possible to engage in arbitrage simply by transporting products to other countries.

true

T/F: The cross-rate is the exchange rate for a non-U.S. currency expressed in terms of another non-U.S. currency.

true

T/F: The management of exchange rate risk should probably be centralized so that the firm has an understanding of its overall positions in foreign currency.

true

______ states that any difference in interest rates between two countries for some period is equal to the difference between the forward and spot exchange rates, thus eliminating any arbitrage possibilities.

IRP

The condition that a commodity costs the same regardless of the currency used or where it is purchased is called:

absolute purchasing power parity

The use of local financing from the government of the foreign country where the operation is located ___.

can reduce political risk

Protecting oneself from a change in the exchange rate by locking in the forward exchange rate today is called ___.

covered interest arbitrage

The ____-rate is the exchange rate for a non-U.S. currency expressed in terms of another non-U.S. currency.

cross

Why is it more challenging to manage long-term exchange rate risk exposure than to hedge short-term risks?

organized forward markets do not exist for long-term needs of corporations

A security issued in the United States representing shares of a foreign stock is called a(n):

American Depository Receipt

Which of the following are true concerning triangle arbitrage?

- it is a profitable situation involving three separate currency exchange transactions - it helps keep the currency market in equilibrium

Which of the following are correct when describing purchasing power parity?

- purchasing power parity is a major factor in the rate of change in exchange rates - parity is expressed as both absolute and relative - exchange rates adjust to keep purchasing power level between currencies

Currently,the spot exchange rate for the Swiss franc is SF 1 = $1.10 or SF 1 = $1.12 90 days forward. Which of the following is true?

- the Swiss franc is at a forward premium - the dollar is selling at a discount to the Swiss franc

Which of the following agreements is a spot exchange rate for the Norwegian krone?

6NKr for $1 settled in 2 days

Money deposited in a financial center outside the country whose currency is involved is called ___.

Eurocurrency

____ arbitrage helps keep the currency market in equilibrium.

Triangle