Quiz On International Finance! Trivia

The demand for domestic currency in the foreign exchange market is determined by the transactions in the balance of payment. When a country exports goods and services, it receives payments in foreign currency, which creates a demand for its domestic currency in the foreign exchange market. Additionally, when there are capital inflows, such as foreign investments or loans, it also increases the demand for domestic currency. Therefore, the correct answer is "Export of goods and services and capital inflows."

The strike price under an option refers to the price at which the underlying asset (in this case, currencies) can be bought or sold when the option is exercised. It is the predetermined exchange rate at which the currencies are agreed to be exchanged under the contract.

Maintaining a foreign currency account allows individuals or businesses to hold funds in a currency other than their domestic currency. By doing so, they can avoid transaction costs associated with converting their domestic currency to the foreign currency for transactions. Additionally, it helps to avoid exchange risk, which refers to the potential loss or gain that can occur due to fluctuations in exchange rates. Therefore, maintaining a foreign currency account helps to avoid both transaction costs and exchange risk.

India is facing a continuous deficit in its balance of payments, which means that it is importing more goods and services than it is exporting. This leads to a higher demand for foreign currencies, causing the value of the rupee to decrease in the foreign exchange market. Therefore, the rupee is expected to depreciate against other currencies.

Interest-rate parity refers to the relationship between spot and forward currency exchange rates and the rates of interest between two countries. It states that the difference in interest rates between two countries will determine the forward exchange rate between their currencies. If there is a higher interest rate in one country compared to another, the forward exchange rate will reflect this difference to ensure that investors do not have an arbitrage opportunity. This concept is important in international finance and helps to explain the relationship between interest rates and exchange rates.

The value of SDR is based on a basket of five currencies. This means that the SDR is a weighted average of these five currencies, which include the US dollar, Euro, Chinese yuan, Japanese yen, and British pound. The weights assigned to each currency reflect their importance in international trade and finance. By using a basket of currencies, the SDR aims to provide a stable and reliable unit of account for international transactions and as a reserve asset for central banks.

Translation exposure refers to the risk that a company faces due to changes in exchange rates when it translates its financial statements from one currency to another. When exposed liabilities are lesser than exposed assets, it means that the company has more liabilities denominated in a foreign currency than assets. This creates a positive translation exposure because if the foreign currency strengthens, the company will have to pay more in its liabilities, resulting in a loss. Therefore, the correct answer is that translation exposure is positive when exposed liabilities are lesser than exposed assets.

Exposed assets are those translated at the current rate. This means that when a company has assets in a foreign currency, they are translated into the reporting currency using the exchange rate at the current time. This is done to reflect the current value of the assets in the company's financial statements. By using the current rate, the company takes into account any fluctuations in the exchange rate that may have occurred since the assets were acquired or last valued.

Denominating the transaction in domestic currency can avoid foreign currency exposures because it eliminates the need to exchange currencies. By conducting the transaction in the domestic currency, there is no risk of exchange rate fluctuations affecting the value of the transaction. This can be beneficial for businesses operating in multiple countries, as it simplifies their financial operations and reduces the potential for losses due to currency fluctuations.

When exposed assets exceed exposed liabilities, it means that the company has more assets in foreign currency than it has liabilities. If the foreign currency depreciates, the value of these assets will decrease. This can result in a translation loss because when the financial statements are translated into the reporting currency, the value of the assets will be lower. Therefore, the correct answer is that translation loss may occur when exposed assets exceed exposed liabilities and foreign currency depreciates.

The true cost of hedging transaction exposure using the forward market is the difference between the agreed rate and the spot rate on the due date of the contract. This means that if the spot rate on the due date is higher than the agreed rate, the company will have to pay more than initially agreed upon, resulting in a higher cost. Conversely, if the spot rate on the due date is lower than the agreed rate, the company will pay less than initially agreed upon, resulting in a lower cost.

An option is considered to be at-the-money when the strike price, which is the predetermined price at which the option can be exercised, is equal to the spot price, which is the current market price of the underlying asset. In this scenario, the option is neither in-the-money nor out-of-the-money, as there is no immediate profit or loss associated with exercising the option. This means that the option holder would break even if they were to exercise the option at the current market price.

Option contracts are financial derivatives that give the holder the right, but not the obligation, to buy or sell an asset at a predetermined price within a specific time period. While option contracts can be used for various purposes, such as hedging or speculation, they are not typically used for managing translation exposure. Translation exposure refers to the risk that a company's financial statements will be affected by changes in exchange rates. Option contracts do not directly address this risk, as they are primarily used for managing other types of financial risks or taking advantage of market opportunities. Therefore, option contracts cannot be used for managing translation exposure.

SDR stands for Special Drawing Rights. Special Drawing Rights (SDRs) are an international reserve asset created by the International Monetary Fund (IMF) to supplement the existing official reserves of member countries. SDRs are allocated to member countries and can be used to supplement their official reserves or exchanged for freely usable currencies. They were created to address the need for additional liquidity in the global financial system and to provide a stable international reserve asset that is not tied to any specific currency. SDRs are used by central banks, governments, and international organizations for various purposes, including settling international transactions and supporting global financial stability.

Economic exposure refers to the risk that a firm faces due to changes in exchange rates, which can affect its future cash flows. It involves analyzing the impact of these changes on the firm's competitiveness, market share, and profitability. However, economic exposure does not specifically deal with expected exchange rate changes. Instead, it focuses on understanding and managing the overall risk and impact of exchange rate fluctuations on the firm's financial performance.

The correct answer is Society for Worldwide Interbank Financial Telecommunication. SWIFT is an international messaging network used by banks and financial institutions to securely and efficiently exchange information and instructions related to financial transactions. The acronym accurately reflects the organization's purpose and scope, emphasizing its role in facilitating communication and collaboration among banks worldwide.

Vostro account is the correct answer because it refers to a type of non-resident bank account. A Vostro account is an account that a foreign bank holds on behalf of another bank. It is used to facilitate international transactions and allows the foreign bank to provide banking services to its customers in the local currency. This type of account is commonly used by banks to maintain relationships and conduct business with banks in other countries.

A firm operating in India cannot hedge its foreign currency exposure through futures because futures contracts are not available for trading on Indian exchanges for foreign currencies. In India, only currency futures for Indian Rupee are allowed to be traded on the exchanges. Therefore, the firm would need to explore other options such as forwards or options to hedge its foreign currency exposure.

When PPP (Purchasing Power Parity) holds, it means that the relative purchasing power of two currencies is equal. In this case, the real exchange rate will not change. The real exchange rate measures the purchasing power of one currency relative to another, taking into account the price levels in both countries. If PPP holds, it implies that the price levels in both countries are in equilibrium, and therefore the real exchange rate remains constant. This is because any change in the nominal exchange rate would be offset by a corresponding change in the price levels, ensuring that the relative purchasing power remains the same.

The correct answer is "The rate prevailing on the date of the balance sheet." This means that for the purpose of translations, the exchange rate used is the one that is in effect on the date the balance sheet is prepared. This is important because exchange rates can fluctuate over time, so using the rate on the balance sheet date ensures that the financial statements reflect the most accurate and up-to-date values for foreign currency transactions and balances.