Chapter 10

At the simplest of levels, exchange rates are determined by _____.

the supply and demand of currencies

Which type of exposure are South Korea's airlines facing when they report their year-end results?

translation exposure

How does a weak currency give a country an unfair advantage in trade?

A weak currency boosts exports sales for the country.

Select the most appropriate function of foreign exchange for each description below GM converts $10 million to yen and then back into dollars within three months.

Currency Speculation

Residents of the hypothetical nation of Jarna feared that the country's economy was failing. They rushed to convert their domestic currency into U.S. dollars and investors in businesses in Jarna also converted their financial holdings. This mass conversion of currency is known as _____.

capital flight

Theoretically, a country in which price inflation is running wild should expect to see its currency ______ against that of countries in which inflation rates are lower.

depreciate

In a(n) _____, there are no trade barriers to prevent the free flow of goods and services.

efficient market

When only nonresidents can convert a currency into a foreign currency with no limitations, the currency is considered

externally convertible.

When a country allows both residents and nonresidents to purchase unlimited amounts of a foreign currency, the country's currency is

freely convertible.

The method of forecasting that draws on economic theory to construct sophisticated models is called the ______ approach.

fundamental

The ______ market school believes that forward exchange rates are NOT the best predictors of future spot exchange rates.

inefficient

When a country's money supply grows faster than the output of goods and services, this causes

inflation.

A(n) ______ currency is one that neither residents nor nonresidents are allowed to convert into a foreign currency.

nonconvertible

When neither residents nor nonresidents are allowed to convert a currency to a foreign currency, the currency is considered

nonconvertible.

The law of ______ is the economic theory that the price of a given security, asset, or commodity must have the same price when exchange rates are taken into consideration.

one price

What type of exchange rate regime is present in Vietnam?

pegged

Brazilian coffee farmers have benefitted from

the drop in the value of the Brazilian real.

If the exchange rate is 1 British pound to $1.35, an American in London will need ______ to purchase a purse priced at 20 pounds.

$27

An American tourist in Japan is interested in buying a souvenir that costs 1800 yen. How much is this in dollars if the exchange rate is $1 to Y400.

$4.50

If a basket of goods costs $400 in the United States and 40,000 yen in Japan, PPP theory predicts that the dollar/yen exchange rate should be

$.01 per Japanese yen.

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. Market traders tend to follow the actions of other traders, but the individual effects can be hard to predict

Short-Term Predictor

If the United States has a weak dollar relative to the euro, what is the impact for a European importer buying products from the United States that are priced in dollars?

The European company will benefit from its relatively strong euro.

Donald Trump has called China a "currency manipulator." What does he mean by this?

Trump is claiming that China intervenes in the market to influence the value of its currency to benefit China.

PPP theory predicts that changes in relative prices will result in

a change in exchange rates.

Economic exposure is concerned with the affect of ______ on a firm's international earning power.

changes in exchange rates

Jameson Electric Corp. would use the foreign exchange market when it needs to

convert currency.

An American company sold construction equipment to the government of Singapore. Instead of receiving payment in U.S. dollars, the company agreed to take payment in the form of goods. This is an example of

countertrade.

A foreign exchange market is where one country's ______ is converted into that of another country.

currency

The value of a currency is determined by the ______ of that currency relative to other currencies.

demand and supply

Company A is based in Europe and does a large amount of business in the United States. The company fears that the euro will gain in strength against the dollar, so it sets up a local production facility in the United States. This is a way to reduce ______ exposure.

economic

The extent to which a firm's future international earning power will be affected by exchange rate changes is called ______ exposure.

economic

The extent to which income from individual transactions is affected by fluctuations in foreign exchange values is known as transaction ______.

exposure

Some countries' governments do not put any limits on the purchase of foreign currency for residents and nonresidents. These country's have a _____ currency.

freely convertible

Forward exchange rates are exchange rates that govern _____ transactions.

future

A(n) ______ is based on the theory that prices don't reveal all available information and more is needed to predict future spot exchange rates.

inefficient market

The Fisher effect predicts that there is a strong relationship between ______ and interest rates.

inflation rates

When the growth in a country's money supply is faster than the growth in its output of goods, ______ tends to increase.

price inflation

The Fisher effect equates the nominal interest rate as

the required real interest rate + expected rate of inflation.

Select the most appropriate function of foreign exchange for each description below Dell deposits $10 million in a Dubai bank.

Investment of Excess Cash

Which type of exposure are South Korea's airlines facing when they make a single purchase of jet fuel and pay for it in USD?

transaction exposure

The five most important foreign exchange trading centers in terms of level of activity are

London, New York, Zurich, Tokyo, and Hong Kong.

Select the most appropriate function of foreign exchange for each description below Toyota sells 10,000 cars in the United States.

Payment for Exports

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Distribute the firm's productive assets to various locations so the firm's long-term financial well-being is not severely affected by adverse changes in exchange rates.

Way to mitigate economic exposure

A(n) ______ convertible currency allows only nonresidents to convert it into a foreign currency without any limitations.

externally

One main reason why the IFE is NOT good at explaining short-term exchange rate movements is the impact of ______ in determining the expectations of market traders.

investor psychology

According to research, PPP theory is a relatively good predictor of ______ exchange rate movements, but is not as good a predictor of ______ movements.

long-run; short-run

Select the most appropriate function of foreign exchange for each description below Apple buys 5,000 computer screens from Japan.

Payment for Imports

To protect resources efficiently and ensure that each subunit adopts the correct mix of tactics and strategies, firms should aim for _____ control of exposure. (Choose centralized or decentralized.)

centralized

An investment made to profit from future currency movements is called

currency speculation.

A tactic that reduces translation and transaction exposure is

entering into forward exchange rate contracts.

The rate at which a foreign exchange dealer converts one currency into another currency on a particular day is the

spot exchange rate.

Capital flight is most likely to occur when

the value of domestic currency is rapidly depreciating.

The effect of currency exchange rate changes on the reported financial statements of companies is referred to as ______ exposure.

translation

What is the impact of a strong dollar relative to the euro for a U.S. consumer buying a Porsche produced in Germany with parts from Slovakia?

The car should be less expensive for the U.S. consumer.

What has happened to the value of the South Korean won relative to the U.S. dollar from January to July given the following information? January USD1 = WON1,000; July USD1=WON1,200

The won has depreciated against the dollar.

Which of the following has contributed to the problems Vietnam is facing with its coffee revenues?

Vietnam's currency is pegged to the dollar.

Which of the following statements is true of how the strong U.S. dollar has affected the global coffee market?

Vietnamese coffee farmers are reducing coffee production and investing in alternative crops.

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Entering into forward exchange contracts and buying swaps can be used.

Way to mitigate transaction exposure

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Using lead and lag strategies can help accelerate payments from weak currency to strong currency countries, and vice versa.

Way to mitigate translation exposure

According to PPP theory, a country with a high inflation rate will see ______ in its currency exchange rate.

a depreciation

Which of the following would be most beneficial for Vietnam's coffee growers?

a depreciation in the value of the U.S. dollar

If the demand for the yen outstrips its availability and if the supply of the dollar outweighs the demand, the yen will _____ against the dollar. (Choose between appreciate or depreciate.)

appreciate

Assume the euro/dollar exchange rate quoted in Tokyo at 6 a.m. is €1 = $1.00. If the New York euro/dollar exchange rate at the same time (5 p.m. New York time) is €1 = $1.35, a dealer could make a profit through

arbitrage.

Feldman Technology Group has international holdings in India. The company often needs to fund large orders for parts in India with the knowledge that an Indian importer will soon buy completed product from Feldman. These transactions require large sums of capital in both dollars and rupee and as a way to move from one currency to another without incurring foreign exchange risk, the company should use a(n) _____.

currency swap

The relationship between the U.S. dollar and the European Union's euro has been up and down. In 2018, for example, a strong U.S. economy together with persistent economic weakness in Europe resulted in American exports to the euro zone being 17 percent more expensive when priced in euros. Which type of exchange rate exposure are managers dealing with in this longer-term scenario?

economic exposure

A(n) __________ market is one in which prices reflect all available public information.

efficient

Two strategies that can be used to reduce translation and transaction exposure are: legal strategy. lag strategy. labor strategy. lead strategy.

lag strategy. lead strategy.

By comparing the prices of identical products in different currencies, it would be possible to determine the _____ exchange rate that would exist if markets were efficient.

purchasing power parity

According to _____, identical products sold in different countries must sell for the same price in competitive markets when their price is expressed in terms of the same currency.

the law of one price

What is the transaction called where two parties agree to exchange currency at some specific date in the future?

Forward exchange

Which approach to forecasting draws on economic theory to develop models that predict exchange rate movements?

Fundamental

The most important foreign exchange trading center is ______ with 43 percent of the activity.

London

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. A government can increase the supply of money, which makes it easier for individuals and businesses to get credit. This, in turn, can increase the demand for goods and services, which should grow at the same rate to avoid inflation.

Long-Range Predictor

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. If the growth in a country's money supply is faster than the growth in its output, price inflation is fueled.

Long-Range Predictor

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. Nominal interest rate is the sum of the required "real" rate of interest and the expected rate of inflation during the loan period. A strong relationship exists between nominal interest rates and inflation rates.

Long-Range Predictor

What are three moderately decent predictors of long-term changes in exchange rates? Real unemployment rate Nominal interest rate differentials Predictive birth rate Relative inflation rates Relative monetary growth

Nominal interest rate differentials Relative inflation rates Relative monetary growth

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. Evidence reveals that various psychological factors play an important role in determining the expectations of market traders.

Short-Term Predictor

Select whether each factor is a better short-range predictor or long-range predictor of movement in foreign exchange rates. Expectations of market traders tend to become self-fulfilling prophecies.

Short-Term Predictor

If Mexico has a weak peso relative to the dollar, what is the impact for U.S. companies importing inputs from Mexico that are priced in pesos?

The U.S. company will benefit from its relatively strong dollar.

What causes inflation to occur in a country?

Inflation occurs when the money supply in a country outpaces the level of production of goods and services.

What is the impact of a strong dollar relative to the peso for a U.S. consumer buying a car produced in Mexico?

The car should be less expensive for the U.S. consumer.

________ exposure is the risk, faced by companies involved in international trade, that currency exchange rates will change after the companies have already entered into financial obligations. Such exposure to fluctuating exchange rates can lead to major losses for firms.

Transaction

_____ exposure refers to the present measurement of past events using currency exchange rate changes on a company's financial statements.

Translation

Empirical evidence suggests that the International Fisher effect does NOT explain short-term exchange rate movements well.

True

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Income from the individual obligations for the immediate purchase or sale of goods and services at agreed prices; the borrowing or lending of funds in foreign currencies is affected by fluctuations in foreign exchange values.

Description/example of transaction exposure

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Concerned with the present measurement of past events.

Description/example of translation exposure

The Economist magazine version of the PPP uses ______ as a proxy for a "basket of goods."

the Big Mac

Spot against forward is a common type of currency swap.

True

When a government intervenes in cross-border trade by implementing a trade barrier, it ______ the link between relative price changes and changes in exchange rates predicted by PPP theory.

weakens

Which type of control of exposure is MOST effective at protecting resources efficiently and ensuring that each subunit adopts the correct mix of tactics and strategies?

Centralized

PPP theory, according to research, seems to predict exchange rate movements best for countries in which two situations? Countries with low inflation rates Countries with developed capital markets Countries with high inflation rates Countries with underdeveloped capital markets

Countries with high inflation rates Countries with underdeveloped capital markets

Which school of thought on exchange rate forecasting does NOT believe that forward exchange rates are the best predictors of future spot exchange rates?

Inefficient

At least some of the losses reported by the two South Korean airlines can be attributed to __________ fuel costs associated with a __________ won.

rising, weakening

The adverse consequences of unpredictable changes in exchange rates are called foreign exchange _____.

risk

The impact of psychological factors and investor expectations makes it difficult for exchange rate theories to predict ______ changes in exchange rates.

short-term

Currency ______ involves buying, selling, and holding currencies in order to make a profit from favorable fluctuations in exchange rates. Multiple choice question.

speculation

A(n) ______ exchange rate is the price to exchange one currency for another for immediate delivery.

spot

In 2014, the value of the U.S. dollar relative to the euro was about 30 percent weaker than its value in 2001. How is a weak currency an advantage in trade?

A weak currency boosts export sales for the country.

What are the two main functions of the foreign exchange market? Currency conversion Provide insurance against foreign exchange risk Eliminate double taxation Advance mass customization

Currency conversion Provide insurance against foreign exchange risk

What is the key way a company can reduce economic exposure?

Distribute production facilities and assets to various locations

Match each description and way to mitigate the exposure with the correct risk area. Description/example of translation exposure Way to mitigate transaction exposure Way to mitigate translation exposure Description/example of transaction exposure Description/example of economic exposure Way to mitigate economic exposure Concerned with the long-term effect of changes in exchange rates on future prices, sales, and costs.

Description/example of economic exposure

Select the most appropriate type of exchange rate for each description below. 1. Guarantees—Reduces uncertainty of FX transactions (Click to select) Forward Exchange Rate Spot Exchange Rate 2. Real time—Price of currency now (Click to select) Forward Exchange Rate Spot Exchange Rate 3. Changes—Based on supply and demand changes (Click to select) Spot Exchange Rate Forward Exchange Rate 4. Future—Rates quoted 30 days, 90 days, and 180 days into the future (Click to select) Spot Exchange Rate Forward Exchange Rate 5. Conversion—Happens in a day or two (Click to select) Forward Exchange Rate Spot Exchange Rate 6. Majority—Two-thirds of all foreign exchange transactions (Click to select) Spot Exchange Rate Forward Exchange Rate

1. Forward Exchange Rate 2. Spot Exchange Rate 3. Spot Exchange Rate 4. Forward Exchange Rate 5. Spot Exchange Rate 6. Forward Exchange Rate

What are the two schools of thought regarding the prediction of future exchange rates? Efficient market school Inefficient market school Exchange rate risk school Exchange rate forecasting school

Efficient market school Inefficient market school

Government intervention in the foreign exchange markets does NOT affect the ability of PPP in predicting exchange rate movements.

False