Eco-Exchange Rate Presentation Version 1

8/3/2019 Eco-Exchange Rate Presentation Version 1

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EXCHANGE RATES

GROUP 7NILESH SAWANT ROLL NO. 27SUBRATA MONDAL ROLL NO. 44PRAMOD KUMTHEKAR ROLL NO. 33SHAHAJAHAN SHAIKH ROLL NO. 39RUPA KHEDKAR ROLL NO. 37SHARAD BAGGONKAR ROLL NO.41



WHAT IS A „EXCHANGE RATE‟?

Rate/ value at which one currency will be exchanged for another.

Also known as „foreign-exchange‟ rate or „forex‟ rate.

Exchange rates are determined in the foreign exchange market.

Two types of foreign exchange trading:

Spot Rates : Exchange rate at current levels

Forward Rates: Rate that is quoted and traded today but the delivery &

payment are done on a specific future date.



TYPES OF EXCHANGE RATES

Fixed Exchange Rates

Floating Exchange rates

Nominal exchange rates: Its reported daily in newspapers worldwide.

Based on currency financial markets.

Real exchange rates are nominal exchange rates corrected by aninflationary measure.

Bilateral exchange rates are figured by comparing two countries‟currencies.

Multilateral exchange rates are figured by comparing multiple currencies.



FIXED EXCHANGE RATES

Fixed rate is a type where the government maintains a fixed exchange rate.It doesn't change.

The currency‟s value is matched to:

Another single currency or

to a basket of other currencies or to another measure of value, such as gold

Is usually used to stabilize the value of a currency against the currency it ispegged to.

It can also be used as a means to control inflation.



FLOATING EXCHANGE RATES

Also known as fluctuating/ flexible exchange rate.

The price for currency is market driven. The rate is determined by the freemarket forces of demand and supply.

There is no government intervention to fix the price.

The value is allowed to fluctuate according to the exchange market.



FLOATING EXCHANGE RATE SYSTEMS

It consists of: „Independent‟ floating system

„Managed‟ floating system.

„Independent‟ floating system :

The rate is strictly determined by the free movement of demand andsupply.

„Managed‟ floating system:

Also determined by free movement of demand and supply

But the monetary authorities intervene at certain times to "manage" theexchange rate to prevent high volatilities.



WHY COUNTRIES OPT FOR FLEXIBLE EXCHANGE RATES

It‟s a Automatic correction. The country lets it move freely to the equilibrium

of demand and supply.

Unlike „fixed‟ exchange rate, currency is not tied in with the high world

inflation rate and is insulated from external economic events.

It helps to insulate the domestic economy from world economic fluctuations.

It allows for automatic correction of any BOP disequilibrium arising from theimplementation of domestic policy.



EXCHANGE RATE EQUILIBRIUM

e

D

DS

S

Quantity of Rupees

Value ofRupees



FACTORS AFFECTING EXCHANGE RATES

1. Interest RatesBenchmark“ interest rates” from central banks influence the rates which

financial institutions charge customers to borrow money.

2. Economic growth expectations:If growth occurs too rapidly, it will give rise to higher inflation. The bankswill raise interest rates to increase the cost of borrowing.

3. Trade Balance:Trade balance impacts supply and demand for a currency. If a countryhas a trade surplus, demand for its currency increases as foreign buyersmust exchange more of their home currency in order to buy its goods. Atrade deficit, on the other hand, increases the supply of a country‟s

currency and could lead to devaluation if supply greatly exceeds demand.



COMBINATION OF CURRENCIES (BASKET VALUATION) Currency pegging is the idea of fixing the exchange rate of a

currency by matching it‟s value to the value of another singlecurrency or to a basket of other currencies, or to another measure ofvalue, such as gold or silver.

Pegging a currency to another currency facilitates trade andinvestments between the two countries, and is especially useful forsmall economies where external trade forms a large part of their

GDP

The idea of pegging against gold started in the late 17th century

when a new gold coinage was introduced in Great Britan based

on the 22 carat fine guinea.

A group of securities whose weighted average is used to determinethe value of an obligation or the value of another currency. Forinstance, a country that does not peg the value of its currency to asingle other currency, such as the U.S. dollar, could value itscurrency to the value of a currency basket comprised of Euros, U.S.dollars, and Japanese Yen.



SPECIAL DRAWING RIGHTS

Value of the special drawing right shall be determined on the

basis of the four currencies issued by Fund members, or bymonetary unions that include Fund members (“monetaryunions”), whose exports of goods and services during the five-year period ending 12 months before the effective date of thisdecision

one special drawing right shall be the sum of the values ofspecified amounts of the four currencies .

Currency Weights (in currency)

U.S. dollar 41.9%

Euro 37.4%

Japanese yen 9.4%

Pound sterling 11.3%

The Executive Board of the International Monetary Fund (IMF) todaycompleted the regular five-yearly review of the basket of currencies thatmake up the Special Drawing Right (SDR) and of the interest rate on theSDR.



INTEREST RATES Interest rates, inflation and exchange rates are all highly correlated.

By manipulating interest rates, central banks exert influence over bothinflation and exchange rates, and changing interest rates impact inflationand currency values.

Higher interest rates offer lenders in an economy a higher return relative to

other countries. Therefore, higher interest rates attract foreign capital andcause the exchange rate to rise.

If inflation in the country is much higher than in others, or if additional factorsserve to drive the currency down. The opposite relationship exists for

decreasing interest rates - that is, lower interest rates tend to decreaseexchange rates.



THE CLASSICAL THEORY OF INTERESTRATES BY IRING FISHER

Developed during the 18th and 19th centuries by a number of Britisheconomists and elobrated by Irving Fisher (1930).

The Fisher equation in financial mathematics and economicsestimates the relationship between nominal and real interest ratesunder inflation.

The classical theory argues that the rate of interest is determined bytwo forces

1.The supply of savings, derived mainly from households

2.The demand for investment capital, coming mainly frombusiness sector



THE NOMINAL AND REAL INTEREST RATES – THE FISHER EFFECT

The expected rate of price inflation that, when added to the real interest rate,equals the nominal interest rate on a loan.

i = r + π

Fisher Effect argues that nominal interest rates respond one-for-one tochanges in the expected rate of inflation over the life of a loan.



PURCHASING POWER PARITY THEORY

Given by Gustav Cassel.

According to this theory, the price levels and the changes in the pricelevels in different countries determine the exchange rates of these

country‟s currencies.

This theory is based on the principle that the exchange ratesbetween various currencies reflect the purchasing power of thesecurrencies.

It is thus based on the law of One Price.



PPP THEORY CONTD..

Assumptions of Law of One Price are:

There is no restriction on the movement of goods betweencountries.

There is no transportation cost involved.

There is no transaction cost involved in the buying and selling of

goods.

There are no tariffs involved.

Example: US/French exchange rate: $1 = .78Eur A jacket selling for$50 in New York should retail for 39.24Eur in Paris (50x.78).



REASONS WHY PPP IS NOT PERFECT

o Preferences and choices can vary from country to country.

o International competitiveness is mainly affected by the exchangerate and not by PPP.

o Differences in quality of goods are not sufficiently reflected inPPP.



INTERNATIONAL FINANCIAL REPORTING STANDARDS (IFRS) Use of different accounting frameworks in different countries

Inconsistent treatment and presentation of the same underlyingeconomic transactions

Creates confusion for users of financial statements.

Inefficiency in capital markets across the world.

Increasing complexity of business transactions and globalization of

capital markets

Thus, the case for a single set of globally accepted accountingstandards has prompted many countries to pursue convergence ofnational accounting standards with IFRS.



IFRS - GLOBAL CONTEXT

110+ countries including European Union, Australia, China,New Zealand, and Russia currently require or permit the useof IFRS.

Countries like Japan, Sri Lanka, Canada and Korea have alsocommitted to adopt IFRS from 2011.

US has announced its intention to adopt IFRS from 2014



IFRS - INDIAN CONTEXT

India aims to comply with the IFRS to the extent possible

Objective to formulate sound financial reporting standards.

The ICAI, being a member of the International Federation ofAccountants (IFAC), considers the IFRS and tries to integrate them,to the extent possible, in the light of the laws , customs, practicesand business environment prevailing in India.



BENEFITS OF ADOPTING IFRS

Improved access to international capital markets

Benchmarking with global peers

Enhanced brand value

Avoidance of multiple reporting

Reflecting true value of acquisitions

Transparency in reporting



CHALLENGES IN ADOPTING IFRS

Regulatory endorsement and acceptance

Shortage of skilled resources

Huge cost of enhancement of IT systems

Acceptance by tax authorities

Managing market expectations and investor relationships

Managing day to day business issues – MIS, tax planning,performance indicators, mergers and acquisitions, etc.



TRANSITION TO IFRS First year of reporting: Accounting period commencing on or after 1

April 2011

Date of adoption: The first day of the first reporting financial year Date of reporting: The last day of the first reporting financial year

Comparative year: Immediately preceding previous year

Date of transition: The beginning of the earliest period for which anentity presents full comparative information



CURRENCY BOARD METHOD

A currency board is a monetary authority which is required to maintain

a fixed exchange rate with a foreign currency.

Like central bank, a currency board is a country‟s monetary authority that

issues notes & coins.

Normally been used to hold a fixed exchange rate as well as some majorinternational currency.

Issues local notes & coins in circulation that are “anchored” to a foreign

currency or commodity

The anchor currency is a strong, internationally-traded currency (usuallyUS $, Euro, or British pound).

The exchange rate in a system is strictly fixed.



WHEN SHOULD A COUNTRY ADOPT A CURRENCY BOARD?

Appropriate in countries where national currency has not performedwell in the long term as major internationally traded currencies.

The currency board's target can be another currency, but it can also

be a currency basket.

A currency board could target gold.

The currency would have a stable exchange rate with gold.



HISTORY An invention of the British Empire.

The first one was established in Mauritius in 1849.

Eventually there were boards covering more than 70 countries,issuing money for British colonies in Africa, Asia, the Caribbean, &the Middle East, plus few other small countries.

Reached its peak in the late 1940s.

The purpose was to provide a colony‟s inhabitants with the benefit of a stable & convertible currency, such as pound sterling, without thecost that would be involved if the colony used sterling coins & notes.

There were also several currency boards in independent countries,such as Argentina from 1902-14 & 1927-29, Iraq from 1931-49,Ireland in the interwar years, Danzig in 1922-23, Panama from 1904-31 & North Yemen from 1964-71.



IMPORT EXPORT EXCHANGE RATES

Payment can be done in either their currency or our currency.

Conversion can be done in Banks.

Conversion is determined by the market defined exchange rate.

Rate of exchange is the value or price of one currency in terms ofanother currency.

Rate of exchange is also a very important factor of the economy,having an impact on country‟s overall ability to import and export.



Forms of import export exchange rates:

Two methods are used to determine foreign import export exchangerates.

i) Floating Exchange rate:

Floating (or flexible exchange rate), the one widely used in mostparts of the world.

A Floating exchange rate is determined by the private marketthrough supply and demand.

Often termed "self-correcting“ as any differences in supply and

demand will automatically be corrected in the market

ii)Fixed Exchange Rate:

Fixed exchange rates (estimated exchange rates for some futuresupply) should always be calculated when pricing. Normally

exporters come up with a cushion to make sure they have a securedposition in the event that there is a substantial change in exchangerate. Fixed exchange rates are set by the government of the countryfor their own particular reasons



DOLLARIZATION

Official use of the U.S. dollar or another foreign currency to

substantially or completely replace the locally issuedmonetary base.

Currencies used

United States dollar

Euro

New Zealand dollar

Swiss franc

Indian rupee

Australian dollar



TYPES OF DOLLARIZATION

It can be used unofficially

It can be used semiofficially (orofficially bi-monetary systems)

foreign currency as the sole legal tender, and haveceased to issue the domestic currency



BENEFITS AND COSTS OFDOLLARISATION / EUROISATION

BENEFITS

Fostering macroeconomic stability

Lower risk premia

Domestic financial sector development

Elimination of transaction costs

Stronger economic and financial integration

COSTS

Loss of an adjustment mechanism

Loss of the lender of last resort function

Loss of seigniorage



BENEFITS AND COSTS OFDOLLARISATION / EUROISATION

Factors affecting the balance betweenbenefits and costs:

Potential transaction cost savings

Loss of seigniorage revenues.



RECENT CASES OF DOLLARIZATION



ECUADOR

Ecuador dollarised in March 2000, substituting the US dollar

for its domestic currency, the sucre

Since then all entities have been obliged to maintain theirlegal accounting records in USD

Commercial banks continue to settle accounts on the books ofthe central bank and hold reserve requirements at the centralbank



PRE-DOLLARISATION ECONOMICDEVELOPMENTS Ecuador‟s economy - Oil resources and agriculture, including

fisheries.

In the 1970s – High Growth when prices for natural resourceswere high

Growth rates declined –

fluctuations in world oil prices natural disasters

weak macroeconomic policy management and politicalinstability

From 1982 to 1999 Ecuador did not experience a single year

with an inflation rate of less than 20% p.a., and the sucre continuously lost value against the US dollar



Growth rates declined –

the current account showed persistent negative balances,and the external debt rose to about 95% of GDP.

Growth collapsed, inflation soared, the currency sharply

devalued – Ecuador abandoned its crawling peg regime inearly 1999 in favour of an independently floating regime – and the banking sector faced substantial solvency andliquidity problems.

At the end of 1999 the sucre again came under heavypressure in the exchange market, depreciating from about11,000 sucre per USD to 24,825 sucre per USD on 11January 2000, and political instability ensued

PRE-DOLLARISATION ECONOMICDEVELOPMENTS



Ecuadorian authorities ultimately decided to adopt the US dollar asthe domestic currency at the fixed conversion rate of 25,000 sucre

per USD.

AFTER THE DOLLARIZATION

After adopting the US dollar, annual inflation began to converge toUS levels , declining from 52.2% in 1999 to 12.5% in 2002.

Fiscal developments were positive, mainly owing to the effect ofhigher oil prices as well as to stronger non-oil revenues associatedwith higher growth and fiscal reforms.



INFLATION

Eco-Exchange Rate Presentation Version 1

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