Global Business Today, 11e (Hill)
Chapter 10 The Foreign Exchange Market
1) The foreign exchange market is the primary vehicle used to minimize monopolies within a
marketplace.
2) The foreign exchange market offers complete insurance against foreign exchange risk.
3) Assume that the euro/dollar exchange rate is €1 = $1.20. If it costs $36 to buy a European
product, the stated price of the product would be €36.
4) Carry trade occurs when borrowing is done in one currency where interest rates are low and
using the proceeds to invest in another country where interest rates are high.
5) The spot exchange rate is the rate at which the foreign exchange dealer will convert one
currency into another on a particular day.
6) Spot exchange rates and the 30-day forward rates are the same.
7) When a firm enters into a spot exchange contract, it is taking out insurance against adverse
future exchange rate movements.
8) Currency swaps are transacted between international businesses and their banks, between
banks, and between governments when it is desirable to move out of one currency into another for
a limited period without incurring foreign exchange risk.
9) A common kind of currency swap is spot against forward.
10) When companies wish to convert currencies, they typically do so through a bank.
11) Although a foreign exchange transaction can involve any two currencies, most transactions
involve U.S. dollars on one side.
12) Supply and demand of one currency relative to another helps determine exchange rates.
13) An efficient market exists when countries enact tariff barriers to minimize imports.
14) Inflation occurs when the money supply in a country increases faster than output increases.
15) For price discrimination to work, arbitrage opportunities must be unlimited.
16) In economic terms, interest rate levels reflect future inflation rates.
17) Unlike the purchasing power parity theory, the international Fisher effect is a good predictor of
short-run changes in spot exchange rates.
18) Investor psychology has an effect on short-run exchange rate movements.
19) In terms of exchange rate forecasting, the efficient market school argues that companies should
spend additional money trying to forecast short-run exchange rate movements.
20) A fundamental approach to exchange rate forecasting would focus on relative money supply
growth rates, inflation rates, and interest rates.
21) When only non-residents of a country may convert currency into a foreign currency without
any limitations it is called freely convertible.
22) Countertrade is a logical choice when a country’s currency is freely convertible.
23) Economic exposure is concerned with long-run effects on future prices, sales, and costs caused
by changes in exchange rates.
24) Leading and lagging strategies involve accelerating payments from weak-currency to
strong-currency countries and delaying inflows from strong-currency to weak-currency countries.
25) Rhonda tells Kevin that he will receive 0.86 euro for every U.S. dollar he wants to convert.
Rhonda is referring to
A) the exchange rate.
B) arbitration.
C) a forward exchange.
D) countertrade.
E) a balance-of-trade equilibrium.
26) One function of the foreign exchange market is to
A) provide some insurance against foreign exchange risk.
B) protect short-term cash flow from adverse changes in exchange rates.
C) eliminate volatile changes in exchange rates.
D) reduce the economic exposure of a firm.
E) enable companies to engage in capital flight when countertrade is not possible.
27) Steven converted $1,000 to ¥105,000 for a trip to Japan. However, he spent only ¥50,000.
During this period, the value of the dollar weakened against the yen. Using a current exchange rate
of $1 = ¥100, how many dollars does Steven have left?
A) $550
B) $523
C) $450
D) $600
E) $500
28) World Auto Group, based in California, buys component parts from Indonesia. The Indonesian
company must be paid in rupiah. World Auto Group will rely on ________ to convert dollars to
rupiah.
A) local content regulations
B) the foreign exchange market
C) a greenfield investment
D) an acquisition agreement
E) arbitration
29) Currency speculation takes place when
A) there is short-term movement of funds from one currency to another in the hopes of profiting
from shifts in exchange rates.
B) the exchange rate at which a foreign exchange dealer will convert one currency differs on a
particular day.
C) there is a simultaneous purchase and sale of a given amount of foreign exchange for two
different value dates.
D) the purchase of securities in one market are immediately resold in another to profit from a price
discrepancy.
E) the growth in a country’s money supply exceeds the growth in its output, leading to price
inflation.
30) Jasper Corp. converts $1,000,000 into euros when the exchange rate is $1 = €0.75. After three
months, the company converts this back into dollars when the exchange rate is $1 = €0.80. What is
the outcome of this transaction?
A) A loss of $62,500
B) A loss of $66,667
C) A gain of $50,000
D) A gain of $62,500
E) A loss of $50,000
31) Assume that the interest rate on borrowings in Japan is 3 percent while the interest rate on bank
deposits in a U.S. bank is 5 percent. Laura, an active currency trader, borrows in Japanese yen,
converts the money into U.S. dollars and deposits it in a U.S. bank. Laura is engaging in
A) countertrading.
B) hedging.
C) currency swap.
D) arbitrage.
E) carry trade.
32) Jin-Lo is investing money for his company. He notices that the interest rate on borrowing in
Jakarta is 2 percent and the interest rate on bank deposits in Warsaw is 7.5 percent. In this
situation, a carry trade would occur when Jin-Lo
A) borrows money in Warsaw currency, converts it into Jakarta currency, and deposits it in a
Jakarta bank.
B) borrows money in Jakarta currency and invests in stocks with good growth potential in Jakarta.
C) borrows money in Jakarta currency, converts it into Warsaw currency, and deposits it in a
Warsaw bank.
D) invests in bank deposits of Warsaw and reinvests the earnings in Jakarta.
E) invests in bank deposits of Jakarta and reinvests the earnings in Warsaw.
33) Assume that the interest rate on borrowings in India is 1 percent while the interest rate on bank
deposits in a U.S. bank is 4 percent. Carlos, an active currency trader, borrows in Indian rupees,
converts the money into U.S. dollars and deposits it in a U.S. bank. What is the speculative element
of this carry trade?
A) There will be no adverse movement in exchange rates or interest rates.
B) Liquidity is the key factor in determining interest rates.
C) Increasing money supply will not drive inflation.
D) Spot exchange rates are more favorable than forward exchange rates.
E) Hedging insures a company against foreign exchange risks.
34) Last week, Saturn Tide a U.S.-based energy firm, entered into an agreement with another party
to exchange currency and execute the deal in eighteen months. What is Saturn Tide using to insure
itself against foreign exchange risk?
A) currency speculation
B) carry trade
C) hedging
D) currency swap
E) arbitrage
35) How are spot exchange rates determined?
A) using historical average prices of different currencies
B) the interaction between demand and supply of a currency relative to other currencies
C) taking the average of a basket of currencies
D) by government decree
E) predicting future currency movements in nonmember countries
36) FutureForm, a U.S. company, imports microprocessors from Japan. The company must pay in
yen to the Japanese supplier within 30 days. In a particular exchange, the company must pay the
Japanese supplier ¥150,000 for each microprocessor at the current dollar/yen spot exchange rate of
$1 = ¥110. FutureForm intends to resell the microprocessors the day they arrive for $1,600 each
but it does not have the funds to pay the Japanese supplier until these have been sold. What will
happen if the exchange rate after 30 days is $1 = ¥90?
A) The importer will earn a profit of approximately $236 per microprocessor.
B) The importer will earn a profit of approximately $67 per microprocessor.
C) The importer will incur a loss of approximately $236 per microprocessor.
D) The importer will incur a loss of approximately $67 per microprocessor.
E) The importer will incur a loss of approximately $90 per microprocessor.
37) A(n) ________ occurs when two parties agree to exchange currency and execute the deal at
some specific date in the future.
A) forward exchange
B) spot exchange
C) carry trade
D) currency swap
E) arbitrage
38) The U.S. dollar is selling at a discount on the 30-day forward market when what is taking
place?
A) The spot exchange rate is $1 = ¥120 currently and $1 = ¥130 after 30 days.
B) The spot exchange rate is $1 = ¥120 currently and $1 = ¥100 after 30 days.
C) The current spot exchange rate is $1 = ¥120 and the 30-day forward rate is $1 = ¥110 after 30
days.
D) The current spot exchange rate is $1 = ¥120 and the 30-day forward rate is $1 = ¥130 after 30
days.
E) The current spot exchange rate is $1 = ¥120 and the 30-day forward rate is $1 = ¥120 after 30
days.
39) When Lila was planning her visit to Japan, she learned that the 30-day forward exchange rate
was $1 = ¥130, which meant that $1 would buy more yen with a forward exchange than a spot
exchange. In other words, the dollar was selling at a ________ on the 30-day forward market.
A) discount
B) constant
C) command
D) premium
E) deficit
40) Assume that the dollar is selling at a premium on the 30-day dollar/euro forward market. What
is true of the foreign exchange dealers’ market’s expectations about the dollar over the next 30
days?
A) The dollar will depreciate against the euro.
B) The market is undecided about the direction of currency movement.
C) The dollar will appreciate against the euro.
D) The dollar/euro exchange rate will be steady.
E) The dollar will buy more euros with a spot exchange than with a 30-day forward exchange.
41) A(n) ________ is used to move out of one currency and into another for a limited period
without incurring foreign exchange risk.
A) currency swap
B) currency speculation
C) carry trade
D) spot exchange
E) arbitrage
42) The foreign exchange trading center in ________ has the highest percentage of activity.
A) Frankfurt
B) London
C) Paris
D) Hong Kong
E) Sydney
43) London is able to dominate in the foreign exchange market because of its
A) conversion to the euro.
B) government.
C) location.
D) class system.
E) free trade policy.
44) Assume that the yen/dollar exchange rate quoted in London at 3:00 p.m. is ¥115 = $1. Rinaldo
finds out that the rate quoted in New York at 10:00 a.m. (3:00 p.m. London time) is ¥135 = $1.
Rinaldo decides to buy yen in New York and sell it in London. Rinaldo is engaging in
A) currency swapping.
B) currency speculation.
C) carry trade.
D) arbitrage.
E) hedging.
45) Assume that the yen/dollar exchange rate quoted in Tokyo at 5 p.m. is ¥120 = $1, and the New
York yen/dollar exchange rate at the same time (noon New York time) is ¥123 = $1. What action
should a broker take to yield immediate profit?
A) forward exchange
B) carry trade
C) currency swap
D) arbitrage
E) currency speculation
46) The yen/dollar exchange rate is ¥120 = $1 in London and ¥123 = $1 in New York at the same
time. What is the net profit if a dealer takes $1,000,000 to purchase ¥123,000,000 in New York and
engages in arbitrage by selling it in London?
A) $34,000
B) $20,390
C) $25,000
D) $46,666
E) $39,454