Introduction to Global Business Julian Gaspar Ch4

balance of payments (BOP)

a statement of account that shows all transactions between the residents of one country and the rest of the world for a given period of time

current account

the activities of consumers and businesses in the economy with respect to the trade bal- ance, services balance, income balance, and net transfers

trade balance

the net of merchandise exports and merchandise imports

trade deficit

when merchandise imports exceed merchandise exports for a country

services balance

the net of exports of services and imports of services

income balance

the net of investment income from abroad and investment payments to foreigners

balance of transfers

the net of transfer payments going overseas and inflows from abroad

financial account

consists of domestic-country- owned assets abroad, foreign- owned assets in the domestic country, and net financial derivatives

risk premium

the added return required by investors for risk associated with a security or asset

foreign direct investment (FDI)

encompasses purchases of fixed assets (such as factories and equipment) abroad used in the manufacture and sales of goods and services.

statistical discrepancy

reconciles any imbalance between the current account and financial account to ensure that all debit and credit entries in the balance of payments statement sum to zero

foreign exchange markets

a global network of interna- tional banks and currency traders that trade different countries' currencies

exchange rate

the price at which one cur- rency can be converted to another currency

independent floating exchange rate system

system that sets the values of major currencies based on their demand and supply in world currency markets

managed floating exchange rate system

system that determines the value of some currencies partly by demand and supply in the foreign exchange market and partly by active government intervention in the foreign exchange market

fixed exchange rate system

system in which the country pegs its currency at a fixed rate to a major currency or basket of currencies, while the exchange rate fluctuates within a narrow margin around a central rate

spot market

exchange that trades currencies on a real-time basis for immediate delivery

bid-ask spread

the difference between bid and ask prices of a currency; the transaction fee earned by the bank

direct quotes

prices of a foreign currency in dollars or the number of dollars per one unit of foreign currency

indirect quotes

the reciprocal of the direct quote or the prices of a dollar (for example) in foreign currency terms

forward market

exchange that enables purchases and sales of currencies in the future with prices (or the forward rate) established at a previous time

forward rate

the price at an earlier time of a currency in terms of another currency established for future delivery in the forward market

premium

in the forward market, the selling of a currency at a spot rate that is more than the forward rate

hedge

insurance that reduces future risk

inflation

an increase in the prices of goods and services caused by the supply of money exceeding the demand for goods and services

gold standard

monetary system that pegs currency values to the market value of gold

Bretton Woods Agreement

the 1944 decision to establish a global currency system with the U.S. dollar pegged at a fixed rate of exchange to gold, and the currencies of 43 other countries fixed to the dollar

International Monetary Fund (IMF)

financial authority established under the Bretton Woods Agreement in 1944 to help ensure the stability of the international monetary and financial system

Smithsonian Agreement

the 1971 decision allowing the United States to devalue the dollar against other countries' currencies, thereby beginning the breakdown of the 1944 Bretton Woods Agreement

Jamaica Agreement

the 1976 international mon- etary order that allowed countries to adopt different exchange rate systems includ- ing floating their currencies in world markets

special drawing right (SDR)

a basket of currencies consisting of dollars, euros, pounds, and yen created by the International Monetary Fund (IMF) for use as a benchmark to value the currencies of different countries

clean float currency

monetary system with minimal government intervention; largely market determined

dirty float currency

monetary system with varying degrees of government intervention to maintain a range of acceptable values against other currencies.

Dollarization

the practice of using the dollar or some other foreign currency together with, or instead of, a domestic currency in a country

hard currencies

leading world currencies of developed industrialized countries, including the U.S. dollar, European euro, Japanese yen, and British pound sterling

soft currencies

emerging market countries' currencies that are less stable in value than hard currencies and are sometimes pegged to hard currency values

law of one price

principle stating that identical goods should sell for the same price in different countries according to local currencies

arbitrage

buying goods in a lower priced market and selling them in a higher priced market to make profits

purchasing power parity (PPP)

theory stating that a basket of goods should have approximately the same prices across different countries

big mac index

calculation using the cost of a McDonald's restaurant sandwich to assess the relative values of currencies

interest rate parity (IRP)

theory stating that interest rates on bonds in different countries should be the same, as investors would buy and sell these bonds to make arbitrage profits until this condition holds

covered interest rate parity

principle implying that forward exchange rates and spot exchange rates set interest rates on bonds in different countries equal to one another

uncovered interest rate parit

principle implying that expected future spot exchange rates and spot exchange rates set interest rates on bonds in different countries equal to one another.