FIN 385 Topic 5 Exchange Rate Determination

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1、Topic5FIN385Textbook,Chapters7,10InternationalParityConditionsForeignExchangeRateDetermination10-1AgendaThistopiclooksatfactorsthatdetermineexchangerates.Westudytwofactors:PricesandexchangeratesInterestRatesandexchangerates.10-2WhydoMNEswanttoknowhowexchangeratesaredete

2、rmined?Exchangeratesaffecttheirpricingdecisions,marketshare,revenue.Exchangeratesaffectthecostandvalueoffunds.So–theywanttobeabletopredictwhatisgoingtohappentoexchangeratesintheirmarkets.10-3RelationshipbetweenpricesandexchangeratesThelawofOnePricePPPtheory(absolute)Relat

3、ivePPP(RPPP)RealEffectiveExchangeRateIndex(REERI)ExchangeRatePass-Through7-51.PricesandExchangeRates-InternationalParityConditionsSomefundamentalquestionsmanagersofMNEs,internationalportfolioinvestors,importers,exportersandgovernmentofficialsmustdealwitheverydayare:Whatar

4、ethedeterminantsofexchangerates?Arechangesinexchangeratespredictable?01.PricesandExchangeRates-InternationalParityConditionsTheeconomictheoriesthatlinkexchangerates,pricelevels,andinterestratestogetherarecalledinternationalparityconditions.Theseinternationalparityconditio

5、nsformthecoreofthefinancialtheorythatisuniquetointernationalfinance.10-67-7TheStartingPoint–theLawofOnePriceIftheidenticalproductorservicecanbe:soldintwodifferentmarkets;andnorestrictionsexistonthesale;andtransportationcostsofmovingtheproductbetweenmarketsareequal,thenthe

6、productspriceshouldbethesameinbothmarkets.Thisiscalledthelawofoneprice.07-8PricesandExchangeRatesAprimaryprincipleofcompetitivemarketsisthatpriceswillequalizeacrossmarketsiffrictions(transportationcosts)donotexist.Comparingpricesthen,wouldrequireonlyaconversionfromonecurr

7、encytotheother:P$xS=P¥WheretheproductpriceinUSdollarsis(P$),thespotexchangerateis(S)andthepriceinYenis(P¥).07-9PricesandExchangeRatesIfthelawofonepriceweretrueforallgoodsandservices,thepurchasingpowerparity(PPP)exchangeratecouldbefoundfromanyindividualsetofprices.Bycompar

8、ingthepricesofidenticalproductsdenominatedindifferentcurrencies,wecoulddeterminethe“real”orPPPex