The Monetary and Fiscal Policies and Determination of Exchange Rates
Government policies have an impact on exchange rate fluctuations. These channels include: 1. The Mundell-Fleming Model This model stipulates that changes in monetary and fiscal policies within a country interfere with interest rates and economic activities. These interferences manifest themselves…
The Triangular Arbitrage Opportunity
Every bid-offer quote a dealer displays in the interbank FX market should possess the following properties to avoid the creation of arbitrage opportunity: The bid should not be higher than the current interbank offer, and the offer should not be…
International Parity Conditions
International parity conditions refer to the economic theories that link exchange rates, price levels (inflation), and interest rates. These theories describe the interrelationships that help determine long-run fluctuations in exchange rates, interest rates, and inflation. Assumptions of International Parity Conditions…
The Mark-to-Market Value of a Forward Contract
A forward contract is an agreement between two parties to trade one currency for another on a specified future date and at a pre-determined rate. In other words, it is an exchange rate transaction whose settlement timeline exceeds T+2. The…
Spot Rate, Forward Rate, and Forward Premium/Discount
A spot exchange rate is the general price level in the market used to directly trade one currency for another, with the exchange occurring at the earliest possible time. The standard delivery time for spot currency transactions is no longer…
The Bid-offer Spread
An exchange rate is the price of the base currency expressed in terms of the price currency. For example, assume that the USD/CAD rate is 0.7625. This implies that the Canadian dollar, the base currency, costs 0.7625 US dollars (One…
