Exploring exchange rate determination and its implications for global business, this content delves into theories like PPP, IRP, IFE, and BOP. It examines how inflation, interest rates, and balance of payments influence currency values, and how businesses can strategize to manage exchange rate volatility through financial instruments and a solid understanding of economic indicators.
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PPP posits that currencies should adjust to equalize the price of identical goods in different countries
International Fisher Effect (IFE)
IFE suggests that currencies with higher nominal interest rates will depreciate because of expected inflation
IRP relates the differential in interest rates between two countries to the differential between the forward and spot exchange rates
BOP asserts that a country's currency value fluctuates based on its international transactional performance
Inflation differentials between countries can lead to changes in exchange rates, as posited by PPP
Interest rate differentials, as explained by IRP and IFE, can indicate expected movements in exchange rates
The balance of payments affects the supply and demand for a country's currency
The Monetary Model connects money supply and price level expectations to currency value and can help forecast and manage exchange rate risks
The Portfolio Balance Model extends analysis to include financial assets and influences decisions on foreign bond investments
The Asset Market Model treats currencies as an asset class influenced by investors' portfolio choices and affects foreign currency reserve management
Technical analysis uses historical market data, such as price and volume, to predict future exchange rate movements
Technical analysts use techniques such as trend lines, support and resistance levels, and moving averages to identify potential trading opportunities
Technical analysis is often used in conjunction with fundamental analysis for a more complete understanding of market behavior
00
The theory of ______ states that identical goods should cost the same in different countries when measured in a common currency.
Purchasing Power Parity (PPP)
01
The ______ connects the difference in interest rates between two nations to the disparity between forward and spot exchange rates.
Interest Rate Parity (IRP)
02
According to the ______, a nation's currency value is influenced by its performance in international transactions.
Balance of Payments Theory (BOP)
