Forex Mark

Law of One Price

2011-10-05T06:03:00.002-07:00

LAW OF ONE PRICE
The theory that the relative prices of any single good between countries, expressed in each country's currency, is representative of the proper or appropriate exchange rate value.

Purchasing Power Charity

2011-10-05T06:03:00.000-07:00

PURCHASING POWER PARITY [PPP)
A theory that the prices of tradable goods will tend to equalize acrass countries.

What Is a Currency Worth?

2011-10-05T05:53:00.000-07:00

Currency Worth
At what rate should one currency be exchanged for another? For example, what should the exchange rate be between the U.S. dollar and the Japanese yen? The simplest answer is that the exchange rate should equalize purchasing power. For example, if the price of a movie ticket in the United States is $6, the "correct" exchange rate would be one that exchanges $6 for the amount of Japanese yen it would take to purchase a movie ticket in Japan. If ticket prices are ¥540 t'I is a common symbol for the yen) in Japan, then the exchange rate that would equalize purchasing power would be:

¥540/ $6 = ¥90/$6

Therefore, if the exchange rate between the two currencies is ¥90/$, moviegoers can purchase tickets, regardless of which country they are in. This is the theory of purchasing power parity (PPP) , generally considered the definition of what exchange rates ideally should be. The purchasing power parity exchange rate is simply the rate that equalizes the price of the identical product or service in two different currencies:

Price in Japan = Exchange rate X Price in the u.s.

If the price of the same product in each currency is P¥ and p$, and the spot exchange rate between the Japanese yen and the U.S. dollar is S¥/$, the price in yen is simply the price in dollars multiplied by the spot exchange rate:
P¥ = S¥/$ X p$

If this is rearranged (dividing both sides by pS), the spot exchange rate between the Japanese yen and the u.s. dollar is the ratio of the two product prices:

s¥/$ = p¥/p$

These prices could be the price of just one good or service, such as the movie ticket mentioned previously, or they could be price indices for each country that cover many different goods and services. Either form is an attempt to find comparable products in different countries (and currencies) in order to determine an exchange rate based on purchasing power parity. The question then is whether this logical approach to exchange rates actually works in practice.

Global Financial Markets

2011-10-05T05:50:00.000-07:00

Global financial markets serve as links between the fmancial markets of individual countries and as independent markets outside the jurisdiction of anyone country. The market for currencies is at the heart of this international financial market. International trade and investment transactions are often denominated in a foreign currency, so the purchase of the currency precedes the purchase of goods, services, or assets.
All firms striving to attain or preserve competitiveness in the global arena must work with and within the frameworks of foreign exchange markets, which operate independently of the jurisdiction or supervision of governmental authorities.

Advent of the Euro

2011-10-05T05:45:00.000-07:00

Advent of the Euro
In, Brussels, the administrative capital of the European Union, an elaborate sound-and-light show announced cheering crowds that it was official at last: The euro d replaced the German mark, the French franc, the Italian lire, the Greek drachma, and eight more currencies as legal tender for 60 million Europeans.
The euro (€) was introduced as a medium of change in financial transactions in 1999, but New :ar's Day 2002 marked its debut for European consumers. On that date, a total of €6 billion new notes and €37 billion coins were released into circulation. As reported by The Washington Post, a Berlin bank welcomed customers to witness the first conversions from marks into euros at the stroke of midnight. "The atmosphere was euphoric," said manager Michael Schwuchow. "We had 50 people here and everybody wanted to be first." Soon, cash registers across the continent were ringing, as shoppers handed over old currencies and received crisp euro bills and bright, shining pennies in change.
The transition went smoothly. Even the French, who in the past had regarded their national coinage as a symbol of honor, were indifferent to its demise. "The franc disappeared quickly," said Gilles Guitton, director of the French Banking Federation. "What was technically a colossal plan passed much more normally than the pessimists predicted."
EU leaders believe that the launch of the euro as a common currency will strengthen economic and political ties across the continent, and may eventually shake the dominance of the U.S. dollar as an international currency. With Europe still struggling its way out of recession, this is likely to be a long way off. Although the euro is the second most common currency in foreign-exchange reserves, it his only a filth of the dollar's share. At its inception as an electronic currency in 1999, its rate of exchange was US$1.17, falling as low as $.83 before climbing back up to about $.99. Further, the success of the euro as a single currency is dependent upon the ability of the European Union to rise to the daunting challenge of establishing the same interest rates in all member countries, regardless of national economic conditions.
Despite the risks of linking its troubled economy and its interest rates to a single European currency, even the most vocal of opponents to the euro show signs of wavering. In the United Kingdom, a 2003 referendum, which one minister described as "eminently winnable," will decide whether the British, too, will abandon their national currency. 1