module iv - introduction to exchange rate mechanism
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Introduction to Exchange
Rate MechanismMODULE IV
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Introduction
Foreign exchange is the system or process of converting one national currency to another and of transferring money from one country to another
!he foreign exchange mar"et is a mar"et in #hich national currencies are $oug
and sold against one another%
&urrency names are shortened to ' letters to meet the needs of screen($ase
ta$les% !hese #ere developed $y the International Organi)ation f*tandardi)ation and are called I*O codes or *+IF! codes%
It performs three important functions ,(
!ransfer of -urchasing po#er
-rovision of &redit
-rovision of .edging facilities
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Introduction
!ransfer of -urchasing po#er ( It is the primary function of a foreigexchange mar"et /!ransfer of purchasing po#er from one country tanother and from one currency to another0
-rovision of &redit ( !he credit function performed $y forex mar"et plays an important role in the gro#th of foreign trade for internation
trade depends to a greater extent on credit facilities% -rovision of .edging facilities ( .edging refers to covering of foreig
trade ris"s and provide a mechanism to exporters and importers tguard themselves against losses arising from 1uctuations in exchangrates
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Introduction
!he foreign exchange mar"et is uni2ue $ecause of,
its trading volume
the extreme li2uidity of the mar"et
the large num$er of and variety of traders in the mar"et
its geographical dispersion
its long trading hours ( 34 hours a day 5except on #ee"ends6%
the variety of factors that a7ect exchange rates
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-articipants In Forex Mar"et
&ommercial 8an"s
8ro"ers 9 &ustomers
&entral 8an"s
:on ;8an" Forex &ompanies
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-articipants In Forex Mar"et
&OMMER&I
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-articipants In Forex Mar"et
&E:!R
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-articipants In Forex Mar"et
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Exchange Rate Determination
E2uili$rium of Exchange RateA DD for FE 9 ** of FE
DD for FE arises $ecause,
Import of goods and services
FDI in other countries
-ayment $y one government to other for settlement of transactions%
other out1o#s
** of FE arises $ecause,
&ountry exports goods and services to other countries
in1o# of foreign capital
payment made $y other countries
other types of in1o#s
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!ypes Of !ransactions In ForexMar"et
*-O! 9 FOR+
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!ypes Of !ransactions In ForexMar"et
*-O! ( !he transactions are completed on the spot or immediately !his trade represents a /direct exchange0 $et#een t#o currencies hathe shortest time frame involve the cash rather than a contract%
FOR+
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!ypes Of !ransactions In ForexMar"et
FU!URE* ,
Foreign currency futures are exchange traded for#ard transactions #itstandard contract si)e and maturity dates%
Futures are standardi)ed and are usually traded on an exchange createfor this purpose%
Futures transactions are usually inclusive of any interest amounts%
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!ypes Of !ransactions In ForexMar"et
O-!IO:* , 5 F@ Option6
F@ Option is a derivative #here the o#ner has the right $ut not theo$ligation to exchange money denominated in one currency in toanother currency at a pre(agreed exchange rate on a speciCed date%
Fx option mar"et is the deepest largest and most li2uid mar"et for
option of any "ind in the #orld%
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!ypes Of !ransactions In ForexMar"et
*+