A Q & A on Exchange Rates
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| 436366074 | What is an exchange rate? | It is the value of one currency expressed in terms of another currency, e.g. 1 pound = $1.50. | |
| 436366075 | Where are currencies exchanged? | On the Foreign Exchange Market. | |
| 436366076 | Who trades currencies on the foreign exchange market? | Governments, central banks, private commercial banks, MNCs etc. | |
| 436366077 | What is an exchange rate regime? | This is the way that a country manages its exchange rates. | |
| 436366078 | There are three major types of exchange rate regime. What are these? | Fixed, Floating and Managed | |
| 436366079 | What is a fixed exchange rate? | A Fixed exchange rate is an exchange rate system where a currency's value is matched (or pegged) to the value of another single currency, a basket of currencies or to another measurable value (Gold). | |
| 436366080 | In a fixed exchange rate regime, who actually decides the value and then maintains it? | The government or the central bank. | |
| 436366081 | If the value of the currency in a fixed exchange rate regime is raised, we say that this is a ________ or if it is lowered then we say it is a __________? | revaluation of the currency and devaluation of the currency. | |
| 436366082 | How is a fixed exchange rate maintained? | This is done by the government on the foreign exchange market. They actually buy and sell their own currency. | |
| 436366083 | How can a government buy up their own currency? What will the use? | They use previously amassed reserves of foreign currencies. | |
| 436366084 | If, in a fixed exchange rate regime, the value of the currency is increase due to too much demand what can a governement do? | They would sell their own currency on the foreign exchange market which would result in an increase in their reserves of foreign currencies. | |
| 436366085 | What is a floating exchange rate? | This is an exchange rate regime where the value of a currency is allowed to be determined solely by the demand for and supply of the currency on the foreign exchange market. | |
| 436366086 | In a floating regime do governments intervene at all to control the exchange rate. | No, it is left totally up to the market. | |
| 436366087 | How is the price of a currency decided upon in a floating system? | Through the interaction of supply and demand. The equilibrium point sets the price and quantity. | |
| 436366088 | If the value of a currency in a floating exchange rate regime rises, we say that there has been a ____________ and if it falls we say there has been a ______________. What are the missing words here? | Appreciation and depreciation. | |
| 436366089 | If the $ becomes stronger then we say that the purchasing power of the dollar has ___________. | Risen, which means that a given number of $s will buy more goods from the trading partner with the 'other' currency. | |
| 436366090 | What would you expect to happen to the $ if lots of Australians wish to travel to Europe for their holidays. | The supply of the $ would increase as Australians buy Euros. As a result, the $ would depreciate and the Euro would appreciate. | |
| 436366091 | What would you expect to happen to the $ if lots of Australians purchase imports from Europe. | The supply of the $ would increase as Australians buy Euros to pay for the imports. As a result, the $ would depreciate and the Euro would appreciate. | |
| 436366092 | What would you expect to happen to the $ if lots of European firms invest in Australia (FDI or portfolio investment). | The demand of the $ would increase as firms in Europe purchase the currency to invest in Australia. As a result, the $ would appreciate and the Euro would depreciate. | |
| 436366093 | What would you expect to happen to the $ if lots of Europeans save their money in Australian banks due to high interest rates. | The demand of the $ would increase as Europeans purchase the currency to save in Australian banks. As a result, the $ would appreciate and the Euro would depreciate. | |
| 436366094 | What would you expect to happen to the $ if Australia is experiencing much lower inflation than its trading partners. | The $ would appreciate as the demand for Australian exports increases (because they are cheaper) and foreigners need to purchase the $ to pay for the exports. | |
| 436366095 | What is a managed exchange rate? | In reality, most, if not all, exchange rates in the world are 'managed' in some way. This is a regime where the currency is allowed to float, but within 'acceptable boundaries. If the exchange rate is looking like it is in danger of drifting outside these boundaries then the government/central bank will step in. | |
| 436366096 | What are some possible advantages of a high exchange rate? | 1. Downward pressure on inflation due to 'cheaper' imports. 2. More imports can be bought. 3. Forces domestic producers to be more efficient so they are able to compete with cheap imports. | |
| 436366097 | What are some possible disadvantages of a high exchange rate? | 1. Damage to domestic export industry. 2. Damage to non-exporting domestic industry (due to cheaper imports of raw materials and component parts). | |
| 436366098 | What are some possible advantages of a low exchange rate? | 1. Greater employment in export industries due to exports being cheap. 2. Greater employment in domestic industries as imports are now too expensive and therefore demand shifts to domestic firms. | |
| 436366099 | What are some possible disadvantages of a low exchange rate? | 1. Inflation due to imports of raw materials and component parts increasing in price. This will make the final products more expensive. | |
| 436369923 | What should the government do to interest rates if they wish to raise the value of a their currency? | They would raise them which would increase the demand for financial investments from abroad. This would result in the value of the currency increasing due to the increased demand for it. | |
| 436369924 | Why might a fixed exchange rate be more preferable for businesses? | Because this then provides them with more stability when trading internationally. They can agree prices in contracts and know they will receive that price. | |
| 436427454 | What are some disadvantages of a fixed exchange rate? | 1. Lose interest rate option to control the domestic economy as it needs to be used to control the exchange rates. 2. Country needs to hold large amounts of foreign currency reserves. 3. It is not a simple task. 4. If fixed artificially low then this may hamper international relations. | |
| 436427455 | What are some advantages of a fixed exchange rate? | 1. Reduces uncertainty for businesses. 2. Makes governments keep inflation low as with a fixed ER high inflation would be really problematic. | |
| 436427456 | What are some advantages of a floating exchange rate? | 1. Interest rates can be used to control the domestic economy. 2. Should help to ensure a current account balance as it should sort itself out automatically. 3. No need to hold large amounts of foreign reserves. | |
| 436427457 | What are some disadvantages of a floating exchange rate? | Difficult to businesses operating internationally. |
