Professional Documents
Culture Documents
Forx Chapter Three
Forx Chapter Three
Learning objectives
At end of the lesson student should be able
to ;
• Define foreign exchange market.
• Explain the functions of foreign exchange.
• Discuss structure of foreign exchange.
• Evaluate the transaction of foreign
exchange market
The Foreign Exchange Market is a market
where the buyers and sellers are involved
in the sale and purchase of foreign
currencies. In other words, a market where
the currencies of different countries are
bought and sold is called a foreign
exchange market.
The Foreign Exchange Market
• The Foreign Exchange Market provides:
– the physical and institutional structure through
which the money of one country is exchanged
for that of another country;
– the determination rate of exchange between
currencies; and
– is where foreign exchange transactions are
physically completed.
Functions of the Foreign Exchange
Market
The foreign exchange market is the
mechanism by which participants:
– transfer purchasing power between countries;
– obtain or provide credit for international trade
transactions; and.
– minimize exposure to the risks of exchange
rate changes.
• Transfer function: The basic and the most visible
function of foreign exchange market is the transfer of
funds (foreign currency) from one country to another for
the settlement of payments. It basically includes
the conversion of one currency to another, where in
the role of FOREX is to transfer the purchasing power
from one country to another.
For example, If the exporter of Somaliland import goods
from the UAE and the payment is to be made in dollars,
then the conversion of the s/land shillings to the dollar
will be facilitated by FOREX.
The transfer function is performed through a use of credit
instruments, such as bank drafts, bills of foreign
exchange, and telephone transfers.
Credit Function: FOREX provides a short-term
credit to the importers so as to facilitate the
smooth flow of goods and services from
country to country.
An importer can use credit to finance the foreign
purchases. Such as UAE company wants to
purchase the machinery from the USA, can
pay for the purchase by issuing a bill of
exchange in the foreign exchange market,
essentially with a three-month maturity.
• Hedging Function: the third function of a foreign
exchange market is to hedge foreign exchange risks.
The parties to the foreign exchange are often afraid of
the fluctuations in the exchange rates, i.e., the price of
one currency in terms of another.
• The change in the exchange rate may result in a gain or
loss to the party concerned. Thus, due to this reason the
FOREX provides the services for hedging the anticipated
or actual claims/liabilities in exchange for the forward
contracts.
• A forward contract is usually a three month contract to
buy or sell the foreign exchange for another currency at
a fixed date in the future at a price agreed upon today.
Thus, no money is exchanged at the time of the contract.
Structure of Foreign exchange
market
• The foreign exchange market consists of two tiers:
– the interbank or wholesale market.
– the client or retail market (specific, smaller amounts).
Thank you.