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Dr. K. B. Rangappa Associate Professor Department of Studies in Economics Davangere University, Shivagangothri Davangere
A foreign exchange transaction is an agreement between a buyer and a seller that a fixed amount of one currency will be delivered for some other currency at a specified rate
Hedging Function: The foreign exchange market performs the hedging function covering the risks on foreign exchange transactions. There are frequent fluctuations in exchange rates. In order to avoid the risk involved, the foreign exchange market provides hedges or actual claims through forward contracts in exchange against such fluctuations. The agencies of foreign currencies guarantee payment of foreign exchange at a fixed rate. The exchange agencies bear the risks of fluctuation of exchange rate.
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Out of which, $1.490 trillion in spot transactions, $475 billion in outright forwards, $1.765 trillion in foreign exchange swaps
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The bid is the price at which a dealer will buy another currency The ask or offer is the price at which a dealer will sell another currency
Interest rate parity, or sometimes known as International Fisher effect is an economic concept, expressed as a basic algebraic identity that relates interest rate and exchange rate
Political Stability and Economic Performance: Foreign investors inevitably seek out stable countries with strong economic performance in which to invest their capital. A country with such positive attributes will draw investment funds away from other countries perceived to have more political and economic risk. Political turmoil, for example, can cause a loss of confidence in a currency and a movement of capital to the currencies of more stable countries. Political stability improve the value of a currency (Less rs/dollar)
If export prices are rising faster than import prices, the terms of trade index will rise. This means that fewer exports have to be given up in exchange for a given volume of imports. If import prices rise faster than export prices, the terms of trade have deteriorated. A greater volume of exports has to be sold to finance a given amount of imported goods and services. The terms of trade fluctuate in line with changes in export and import prices. Clearly the exchange rate and the rate of inflation can both influence the direction of any change in the terms of trade.
Currency convertibility
Currency convertibility refers to the freedom to convert the domestic currency into other internationally accepted currencies and vice versa. Convertibility in that sense is the elimination of controls or restrictions on currency transactions. While current account convertibility refers to freedom in respect of payments and transfers for current international transactions , capital account convertibility (CAC) would mean freedom of currency conversion in relation to capital transactions in terms of inflows and outflows.