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International finance - Essay Example

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According to Block & Hirt (2008), exchange rate refers to the price at which one unit of the currency of a country is bought in terms of the currency of another country. Exchange rates will continue changing constantly in response to various economic events and the expectations…
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Download file to see previous pages On the other hand, appreciation of the domestic currency refers to increase in exchange rate brought about by forces of the market in the price of domestic currency in terms of a foreign currency. The need for foreign country’s currency in order to buy goods denominated in a foreign currency is reflected by demand for the foreign currency. In most cases, the selling country denominates its goods and services in terms of domestic currency hence importers from other countries will feel the need for the foreign currency in order to conduct the financial transaction.
Foreign currency is supplied into the country when foreign currency is sold in order to carry out financial transactions that are denominated in home currency. It is the demand for and supply of a currency which yields an equilibrium position in the foreign exchange market. The equilibrium point being the point where there is an intersection between the upward sloping supply curve and the downward sloping demand curve (Koller, Goedhart and Wessels, 2010). A low value of foreign currency makes the demand for foreign currency on the foreign exchange market to increase whereas the demand for foreign goods increase due to its relatively cheaper price than domestic goods. On the other hand, a high value of foreign currency makes the demand for foreign currency on the foreign exchange market to decrease whereas the demand for foreign goods increase due to its relatively higher price than domestic goods (Needles, Powers and Crosson, 2010).
Therefore, the question that arises is the cause of exchange rate revaluation and whether the depreciation or appreciation of an exchange rate can be predicted. This paper will rightly answer this questions by using a thorough discussion on the determination of exchange rate using the flexible price monetary model. The discussion will further explore the ability or inability of the model to explain the observed movements in foreign ...Download file to see next pagesRead More
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