Exchange rates
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What is an exchange rate?
- An exchange rate is one currency’s price in another. In fictional £1 = $1.25, the units are dollars per pound. Multiply pounds by 1.25 to obtain dollars; divide dollars by 1.25 to obtain pounds. The reciprocal quote is £0.80 per dollar.
- Name the currency pair and quote direction. Rates in this lesson are original teaching assumptions; market reference quotes differ from rates actually available after spreads and fees. A bilateral currency change does not mean the same movement against every trading partner.
Fictional conversion at £1 = $1.25
Changes in value
- Appreciation buys more comparison currency; depreciation buys less. In dollars per pound, 1.25 to 1.50 is pound appreciation. The reciprocal pounds-per-dollar quote falls, so reading the number without the units can reverse the conclusion.
- Revaluation and devaluation describe official upward and downward changes in a pegged parity. A peg can be changed and may have a permitted band; fixed does not mean no policy action or no pressure.
Describe the currency movement
Causes of change
- Currency demand may arise from export receipts converted into pounds, inward investment or demand for sterling assets. Imports and outward asset purchases can involve supplying pounds. In a simple floating model greater demand with unchanged supply raises the currency price; greater supply has the opposite pressure.
- Relative expected returns, risk, confidence and speculation affect asset flows. A UK rate rise can support sterling if it makes assets more attractive relative to alternatives, but expectations, inflation and news can offset it. Markets respond to what changes relative to expectations, not only the stated interest rate.
Fictional demand shift for pounds
Effects of a fall in the pound
- With unchanged sterling invoice prices, depreciation lowers the comparison-currency export price and may support sales or incoming tourism. A fixed dollar export receipt instead converts into more pounds at the new spot rate; the foreign buyer’s price is unchanged.
- Unchanged foreign-currency imports, inputs and debts cost more pounds, before hedging. Retail pass-through and inflation effects depend on contracts, margins and timing. Trade volumes depend on elasticities and capacity; the trade balance can initially worsen if prices adjust before quantities. A weaker pound does not automatically improve every exporter’s profit.
Depreciation and invoice currency
Effects of a rise in the pound
- Appreciation lowers the sterling cost of unchanged foreign-currency imports or overseas holidays, before fees. It also raises the foreign-currency price of unchanged sterling exports, potentially weakening sales where demand responds.
- Importing firms may benefit from cheaper inputs while exporters can face price pressure; firms can have both exposures. Retail prices, margins, jobs and inflation do not change mechanically by the exchange-rate percentage, especially with hedging or sticky invoice prices.
Judge the net effect on a firm
Exchange rate systems
- Floating rates are principally market-determined. A fixed arrangement maintains a target or band against another currency or basket, potentially using reserves, intervention and policy adjustments. Managed systems involve authorities influencing market movements.
- A peg can reduce exchange-rate uncertainty but uses resources and limits policy freedom. A floating rate can adjust to shocks yet create volatility for trade and debt. Evaluate reserves, credibility, exposures and policy aims rather than asserting one system always dominates.
Compare the arrangements
Example
- Fictional rates: £1 = $1.50 then £1 = $1.25. A £100 export with unchanged sterling price falls from $150 to $125. An unchanged $150 import rises from £100 to £120. A fixed $150 export receipt also converts into £100 then £120, so invoice currency matters.
- The dollars-per-pound quote falls about 16.7%, while the sterling price of the fixed-dollar import rises 20%. Reciprocal changes have different percentage bases. These conversions exclude fees, hedging, tariffs and changes in invoice prices.
Reciprocal percentages differ
Slide
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Câu hỏi luyện tập
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1.What is appreciation?
Easy- Aa rise in a currency’s value against the stated comparison currency
- Ba fall in value
- Cno change
- Da tax
2.What is depreciation?
Easy- Aa rise in value
- Bno change
- Ca tax
- Da fall in a currency’s value against the stated comparison currency
3.What does a floating exchange rate mean?
Easy- Ait never changes
- Bit is zero
- Cit is set by market demand and supply
- Dit is set by government
4.What does a fixed exchange rate mean?
Easy- Ait is zero
- Bauthorities maintain a target or band against a currency or basket
- Cthe market sets it
- Dit changes daily
5.What is the foreign exchange market?
Easy- Awhere currencies are traded
- Bwhere goods are traded
- Ca bank
- Da shop
6.A UK exporter keeps its sterling price unchanged. The pound depreciates against the dollar. What happens to its dollar price at the new spot rate, before fees?
Easy- Athey become dearer abroad
- Bno change
- Cthey vanish
- Dthey become cheaper abroad
7.A UK import has an unchanged dollar invoice price and no hedge. What happens to its sterling cost if the pound depreciates against the dollar?
Easy- Ano change
- Bthey vanish
- Cthey become more expensive
- Dthey become cheaper
8.If UK sterling holiday prices are unchanged, how might pound depreciation affect visitors using the comparison currency?
Easy- Atourism vanishes
- Btheir currency buys more pounds, potentially encouraging visits
- Ctourism falls
- Dno change
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