Friday, December 02, 2005

International Business Chapter 9 - international financial markets - summary

International Capital Market

The international capital market has three main purposes.

  • First, it provides an expanded supply of capital for borrowers because it joins together borrowers and lenders in different nations.
  • Second, it lowers the cost of money for borrowers because a greater supply of money lowers the cost of borrowing (interest rates).
  • Third, it lowers risk for lenders because it makes available a greater number of investments.

Growth in the international capital market is due mainly to three factors.

  • First, advances in information technology allow borrowers and lenders to do business more quickly and cheaply.
  • Second, the deregulation of capital markets is a fitting the international capital market to increased competition.
  • Third, innovation and financial instruments is increasing the appeal of international capital market.

The world's most important financial centers are London, New York, Tokyo. These cities conduct a large number of financial transactions daily. Other applications, called offshore financial centers, handle less business but have few regulations and few, if any, taxes.

International bonds, equity, and Eurocurrency markets

The international bond market consists of all bonds sold by issuers outside their own countries. It is experiencing growth primarily because investors in developed markets are searching for higher rates from borrowers in emerging markets and vice versa. The international equity market consists of all stocks bought and sold outside the country of the issuing company.

The four factors primarily responsible for the growth of international equity are: privatization. Greater issuance of stock by companies in newly industrialized and developing nations greater international reach of investment banks, global electronic trading

The eurocurrency market consists of all the world currencies that are banked outside their countries of origin. The appeal of the euro currency market is its lack of government regulation hand, therefore, lower cost of borrowing.

Primary functions of the foreign exchange market

The foreign-exchange market is the market in which currencies are bought and sold and in which currency prices are determined.

It has four primary functions:

  • First, individuals, companies, and governments use it, directly or indirectly, to convert one currency to another.
  • Second, it offers tools with which investors can insure against adverse changes in exchange-rates.
  • Third, it is used to earn a profit from the instantaneous purchase and sale of a currency, or other interest paying security, in different markets.
  • Finally, it is used to speculate about a change in the value of currency.

Quoted currencies and different rates

Currencies are quoted in a number of different ways. An exchange rate quote between currency A and currency B (a/b) of 10/1 means that it takes 10 units of currency A to buy one unit of currency B. The exchange rate in this example is calculated using their actual values. We can also calculate an exchange rate between two currencies by using their respective exchange rates with a common currency; the resulting rate is called a cross rate.

A spot rate is an exchange rate that requires delivery of the traded currency within two business days. This rate is normally obtainable only by large banks and foreign exchange brokers. The forward rate is the rate at which two parties agree to exchange currencies on a specified future date. Forward exchange rates represent the markets expectation of what the value of the currency will be at some point in the future.

Instruments and institutions of foreign exchange market

Companies involved in international business make extensive use of certain financial instruments in order to reduce exchange-rate risk. A forward contract requires the exchange of an agreed-upon amount of the currency on an agreed upon eight at a specific exchange rate. A currency swap is the simultaneous purchase and sale of foreign exchange for two different dates. A currency option is the right to a stage a specific amount of a currency on a specific day at a specific rate. It is sometimes used to acquire the needed currency. Finally, a currency futures contract requires the exchange of a specific amount of currency on a specific date at a specific exchange rate. It is similar to a forward contract except that none of the terms are negotiable.

The world's largest banks exchange currencies in the interbank market. These banks locate an exchange currencies for companies and sometimes provide additional services. Securities exchanges are physical locations at which currency futures and options are bought and sold (in small amounts of those traded in the interbank market). The over-the-counter (OTC) market is an exchange that exists as a global computer network linking traders to one another.

Governments restrict currency convertibility

There are four main goals of currency restriction:

  • First, a government may be attempting to preserve the countries hard-currency reserves for repaying debts and to other nations.
  • The second, convertibility might be restricted to preserve hard currency to pay for needed imports or to finance the trade deficit.
  • Third, restrictions might be used to protect the currency from speculators.
  • Finally, such restrictions can be an attempt to keep badly needed currency from being invested abroad.

Policies used to enforce currency restrictions include government approval for currency exchange, imposed import licenses, a system of multiple exchange rates, and the imposed quantity restrictions.

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