Figure 4
[pic]
3. Factors affecting foreign exchange rates
. Balance-of-Payments Position
The exchange rate for any foreign currency depends on a multitude of
factors reflecting economic and financial conditions in the country issuing
the currency. One of the most important factors is the status of a nation's
balance-of-payments position. When a country experiences a deficit in its
balance of payments, it becomes a net demander of foreign currencies and is
forced to sell substantial amounts of its own currency to pay for imports
of goods and services. Therefore, balance-of-payments deficits often lead
to price depreciation of a nation's currency relative to the prices of
other currencies. For example, during most of the 1970s, 1980s, and into
the 1990s, when the United States was experiencing deep balance-of-payments
deficits and owed substantial amounts abroad for imported oil, the value of
the dollar fell.
. Speculation
Exchange rates also are profoundly affected by speculation over future
currency values. Dealers and investors in foreign exchange monitor the
currency markets daily, looking for profitable trading opportunities. A
currency viewed as temporarily undervalued quickly brings forth buy orders,
driving its price higher vis-a-vis other currencies. A currency considered
to be overvalued is greeted by a rash of sell orders, depressing its price.
Today, the international financial system is so efficient and finely tuned
that billions of dollars can flow across national boundaries in a matter of
hours in response to speculative fever. These massive unregulated flows can
wreak havoc with the plans of policymakers because currency trading affects
interest rates and ultimately the entire economy.
. Domestic Economic and Political Conditions
The market for a national currency is, of course, influenced by
domestic conditions. Wars, revolutions, the death of a political leader,
inflation, recession, and labor strikes have all been observed to have
adverse effects on the currency of a nation experiencing these problems. On
the other hand, signs of rapid economic growth, improving government
finances, rising stock and bond prices, and successful economic policies to
control inflation and unemployment usually lead to a stronger currency in
the exchange markets.
Inflation has a particularly potent impact on exchange rates, as do
differences in real interest rates between nations. When one nation's
inflation rate rises relative to others, its currency tends to fall in
value. Similarly, a nation that reduces its inflation rate usually
experiences a rise in the value of its currency. Moreover, countries with
higher real interest rates generally experience an increase in the exchange
value of their currencies, and countries with low real interest rates
usually face relatively low currency prices.
. Government Intervention
It is known that each national government has its own system or policy
of exchange-rate changes. Two of the most important are floating and fixed
exchange-rate systems. In the floating system, a nation's monetary
authorities, usually the central bank, do not attempt to prevent
fundamental changes in the rate of exchange between its own currency and
any other currency. In the fixed-rate system, a currency is kept fixed
within a narrow range of values relative to some reference (or key)
currency by governmental action.
National policymakers can influence exchange rates directly by buying
or selling foreign currency in the market, and indirectly with policy
actions that influence the volume of private transactions. A third method
of influencing exchange rates is exchange control—i.e., direct control of
foreign-exchange transactions.
Intervention of a central bank involves purchases or sales of the
national money against a foreign money, most frequently the U.S. dollar. A
central bank is obliged to prevent its currency from depreciating below its
lower support limit. The central bank should buy its own currency from
commercial banks operating in the exchange market and sell them dollars in
exchange. These transactions are effectively an open-market sale using
dollar demand deposits rather than domestic bonds. Such transactions reduce
the central bank's domestic liabilities in the hands of the public. The
ability of a foreign central bank to prevent its currency from depreciating
depends upon its holdings of dollars, together with dollars that might be
obtained by borrowing. Even if a national monetary authority has the
foreign exchange necessary for intervention, its need to support its
currency in the exchange market might be inconsistent with its efforts to
undertake a more expansive monetary policy to achieve its domestic economic
objectives.
Also I’d like to say a few words about currency sterilization. A
decision by a central bank to intervene in the foreign currency markets
will have both currency market and money supply effects unless an operation
known as currency sterilization is carried out. Any increase in reserves
and deposits that results from a central bank currency purchase can be
"sterilized" by using monetary policy tools that absorb reserves. There is
currently a great debate among economists as to whether sterilized central
bank intervention can significantly affect exchange rates, in either the
short term or the long term, with most research studies finding little
impact on relative currency prices.
Conclusion
A market in national monies is a necessity in a world of national
currencies; this market is the foreign-exchange market. The assets traded
in this market are demand deposits denominated in the different currencies.
Individuals who wish to buy goods or securities in a foreign country must
first obtain that country's currency in the foreign-exchange market. If
these individuals pay in their own currency, then the sellers of the goods
or securities, use the foreign-exchange market to convert receipts into
their own currency.
One from the most important participants of an exchange market is a
business bank, which act as the intermediaries between the buyers and
sellers. As already it is known they can execute a role speculators and
arbitragers.
Most foreign-exchange transactions entail trades involving the U.S.
dollar and individual foreign currencies. The exchange rate between any two
foreign currencies can be inferred as the ratio of the price of the U.S.
dollar in terms of each of their currencies.
The exchange rates are prices that equalize the demand and supply of
foreign exchange. In recent years, exchange rates have moved sharply, more
sharply than is suggested by the change in the relationship between
domestic price level and foreign price level. Exchange rates do not
accurately reflect the relationship between the domestic price level and
foreign price levels. Rather, exchange rates change so that the anticipated
rates of return from holding domestic securities and foreign securities are
the same after adjustment for any anticipated change in the exchange rate.
The major factor influencing to the rate of exchange, is interference
of government in the person of central bank in currency policy of the
country. The value of a nation's currency in the international markets has
long been a source of concern to governments around the world. National
pride plays a significant role in this case because a strong currency,
avidly sought by traders and investors in the international marketplace,
implies the existence of a vigorous and well-managed economy at home. A
strong and stable currency encourages investment in the home country,
stimulating its economic development. Moreover, changes in currency values
affect a nation's balance-of-payments position. A weak and declining
currency makes foreign imports more expensive, lowering the standard of
living at home. And a nation whose currency is not well regarded in the
international marketplace will have difficulty selling its goods and
services abroad, giving rise to unemployment at home. This explains why
Russia made such strenuous efforts in the early 1990s to make the Russian
ruble fully convertible into other global currencies, hoping that ruble
convertibility will attract large-scale foreign investment.
Recommendations
The problem of “laundering” money is essential with regard to the
exchange market. I’d like to add that the Russian exchange market comes
first in this respect.
The origin of this problem directly is connected with activity of the
organized crime: funds obtained in a criminal way are presented as legal
capital to introduce them in economic and financial structures of the
state. Therefore struggle against “laundering” money is recognized in all
countries as one from major means of a counteraction of the organized
crime. The sources of “dirty” money are as follows:
international drugs traffic;
mafia’s activity;
illegal trade of weapon.
The use of exchange markets for “laundering” money is not a
contingency. This process is promoted by absence of restrictions concerning
foreign exchange.
Unfortunately today participation of Russia in international struggle
against outline problem is limited by signing of the Viennese convention on
struggle against an international drugs trafficking and entering Interpol.
The work on struggle against “laundering” money in Russia should start from
the very beginning. The process of developing legislation and mechanisms of
its application is supposed to give instructions aimed at lawful struggle
against “laundering” money, developing bilateral cooperation with
countries of European Union, USA and Japan.
Literature used
1. “Money, banking and the economy” T. Mayer, J.S. Duesenberry, R.Z.
Aliber
W.W. Norton & company New York, London 1981
2. “Principles of international finance” Daniel R. Kane
Croom Helm 1988
3. “Money and banking” David R. Kamerschen
College Division South-western Publishing Co. 1992
4. “Money and capital markets: the financial system in a increasingly
global economy” fifth edition Peter S. Rose
IRWIN 1994
