Ch209 - U N I T - VI BALANCE OF PAYMENTS CHAPTER 9 FOREIGN...

Info iconThis preview shows pages 1–4. Sign up to view the full content.

View Full Document Right Arrow Icon
B ALANCE OF P AYMENTS UNIT-VI
Background image of page 1

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
F OREIGN E XCHANGE R ATE : M EANING AND D ETERMINATION C HAPTER 9 A country’s economic stability is indicated, among other things, by the stability in its exchange rate. The strength of domestic currency of a country is seen against that of currencies of other countries in the world. Earnings from exports and payments for imports would directly be affected by the exchange rate. Therefore, it is important to know the forces that operate upon the determination of foreign exchange rate and the implications of changes in it for the country concerned. In this chapter we shall explain foreign exchange rate determination. Meaning Foreign exchange rate is the price of one currency in terms of another. It is the rate at which exports and imports of a nation are valued at a given point in time. The foreign exchange rates, by linking the currencies of different countries, make the comparisons of international costs and prices. They also govern and are governed by the flow and direction of foreign trade. Foreign Exchange Market The foreign exchange market is the market where the national currencies are traded for one another. Foreign exchange market performs, mainly, three functions viz., to transfer the purchasing power between countries ( transfer function ), to provide credit channels for foreign trade ( credit function ), and to protect against foreign exchange risks (also known as hedging function ). In view of the above three functions, demand for foreign exchange is the demand for foreign currencies by the residents of a country. When people wish to operate in the foreign exchange market they intend to buy or sell foreign exchange depending on their demand for and supply of foreign exchange. Transactions in the foreign exchange market are reflected in the balance of payments account. The value of Indian residents’ expenditure abroad represents a supply of rupees to the foreign exchange market. This is because if an Indian buys a Japanese radio from abroad, he will pay for it in rupees. Now this total expenditure also represents the demand for foreign exchange that is Japanese Yen, since the Japanese dealer will expect
Background image of page 2
I NTRODUCTORY M ACROECONOMICS 132 payment in Yen. So rupees have to be exchanged for Yen in the foreign exchange market. Similarly, the foreign earnings of Indian residents reflect equal earnings of foreign exchange. For example, Indian exporters will expect to be paid in rupees. So in order to buy our goods, foreigners have to sell their currency and buy rupees in return. Hence, there is inflow of foreign exchange into India. Demand and Supply Side We have already pointed out that people’s intention to transact in the foreign exchange market depends upon their demand and supply position with respect to foreign exchange. The causal factors behind the demand and supply sides are mentioned below: Demand Side People desire to have or acquire foreign exchange for the following reasons: (a) to purchase goods and services from other countries;
Background image of page 3

Info iconThis preview has intentionally blurred sections. Sign up to view the full version.

View Full DocumentRight Arrow Icon
Image of page 4
This is the end of the preview. Sign up to access the rest of the document.

This note was uploaded on 04/20/2010 for the course CEDT 601 taught by Professor Ypr during the Spring '00 term at Indian Institute of Technology, Kharagpur.

Page1 / 9

Ch209 - U N I T - VI BALANCE OF PAYMENTS CHAPTER 9 FOREIGN...

This preview shows document pages 1 - 4. Sign up to view the full document.

View Full Document Right Arrow Icon
Ask a homework question - tutors are online