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Demanders and suppliers of currency in foreign exchange markets

In foreign exchange markets, demand and supply become closely interrelated, because a person or firm who demands one currency must at the same time supply another currency—and vice versa. To get a sense of this, it is useful to consider four groups of people or firms who participate in the market: (1) firms that are involved in international trade of goods and services; (2) tourists visiting other countries; (3) international investors buying ownership (or part-ownership) of a foreign firm; (4) international investors making financial investments that do not involve ownership. Let’s consider these categories in turn.

Firms that buy and sell on international markets find that their costs for workers, suppliers, and investors are measured in the currency of the nation where their production occurs, but their revenues from sales are measured in the currency of the different nation where their sales happened. So, a Chinese firm exporting abroad will earn some other currency—say, U.S. dollars—but will need Chinese yuan to pay the workers, suppliers, and investors who are based in China. In the foreign exchange markets, this firm will be a supplier of U.S. dollars and a demander of Chinese yuan.

International tourists will supply their home currency to receive the currency of the country they are visiting. For example, an American tourist who is visiting China will supply U.S. dollars into the foreign exchange market and demand Chinese yuan.

Financial investments that cross international boundaries, and require exchanging currency, are often divided into two categories. Foreign direct investment (FDI) refers to purchasing a firm (at least ten percent) in another country or starting up a new enterprise in a foreign country For example, in 2008 the Belgian beer-brewing company InBev bought the U.S. beer-maker Anheuser-Busch for $52 billion. To make this purchase of a U.S. firm, InBev would have to supply euros (the currency of Belgium) to the foreign exchange market and demand U.S. dollars.

The other kind of international financial investment, portfolio investment    , involves a purely financial investment that does not entail any management responsibility. An example would be a U.S. financial investor who purchased bonds issued by the government of the United Kingdom, or deposited money in a British bank. To make such investments, the American investor would supply U.S. dollars in the foreign exchange market and demand British pounds.

Portfolio investment is often linked to expectations about how exchange rates will shift. Look at a U.S. financial investor who is considering purchasing bonds issued in the United Kingdom. For simplicity, ignore any interest paid by the bond (which will be small in the short run anyway) and focus on exchange rates. Say that a British pound is currently worth $1.50 in U.S. currency. However, the investor believes that in a month, the British pound will be worth $1.60 in U.S. currency. Thus, as [link] (a) shows, this investor would change $24,000 for 16,000 British pounds. In a month, if the pound is indeed worth $1.60, then the portfolio investor can trade back to U.S. dollars at the new exchange rate, and have $25,600—a nice profit. A portfolio investor who believes that the foreign exchange rate for the pound will work in the opposite direction can also invest accordingly. Say that an investor expects that the pound, now worth $1.50 in U.S. currency, will decline to $1.40. Then, as shown in [link] (b), that investor could start off with £20,000 in British currency (borrowing the money if necessary), convert it to $30,000 in U.S. currency, wait a month, and then convert back to approximately £21,429 in British currency—again making a nice profit. Of course, this kind of investing comes without guarantees, and an investor will suffer losses if the exchange rates do not move as predicted.

Questions & Answers

why should a firm close down when it's unable to pay it's variable cost?
ANDREW Reply
what is oligopolistic competitive market?
ngong
exchange of goods and services between countries is call
Hosea Reply
what is constant opportunity cost
Tiffany Reply
Constant opportunity cost means the value of sacrifice remains constant in every step.
Dipam
Gross Domestic Product GDP
Yusuf Reply
what is g d p
Jayapal Reply
gross daily performance
domingo
How best can a poor country respond to an economic crisis , what does it have to sacrifice.
Bah Reply
they should pay tax as progressive system and should make sacrifice for taxation of their income and land etc
Hamza
how have the nations tries to solve the problem of scarcity in their economies?
Amani Reply
total concentration on to reduce the per unit cost of commodity by technically or whatever
Hamza
explain what will happen to producer of green coconut now that we have to lockdown in the kingdom of tonga
Tuha Reply
the demand for coconut will decrease and supply increases which result in the decrease in the price of coconut and the coconut will be more elastic
Hamza
tonga is producing more long run economic good explain the meaning of the statement and its implication on the tonga economy
Tuha Reply
Demand is the various quantities of goods and services that consumer(s)are willing and able to purchase at a price within a time
Muhammad Reply
What is demand
Mc Reply
demand relates with the need of people for their satisfaction.
Mohd
Distinguish between cross elasticity and income elasticity of demand
Ruth Reply
Distinguish between cross elasticity and income elasticity of demand
Ruth
if change in the demand of the commodity with respect to change in demand of the substitute or other product called cross elasticity
Hamza
and. if change in the demand of the commodity due to change in the income . called income elasticity
Hamza
👍
Vipul
Cross elasticity of demand is the degree of responsiveness of quantity demanded of a commodity to a small change in price of another commodity whiles Income elasticity of demand is the degree of responsiveness of quantity demanded of a commodity to a small change in income of it's consumers
Afriyie
but these are book wordings
Hamza
income elasticity of demand shows how quantity demanded changes due to changes in income on the other hand cross elasticity refers to how the quantity demanded of a particular good alers given a change in the price of another good.
Keysie
what is the competitive demand
Adiza Reply
Income
Sanni
Competitive demand are those commodity dat are competitive in nature e.g the close up and my my toothpaste the increase in price of close up may bring abt decrease in demand of it and it will serve as increase in purchase of my my
Daniel
With regards to coal shortage and manicipal debts the what form of intervention do you think Eskom can put in place.
kedibone Reply
economic growth of Bhutan
Nima Reply
please, explain all the mathematics terms used in economics
nelson
The answer is: little more than high school algebra and graphs.
Tere

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Source:  OpenStax, Principles of economics. OpenStax CNX. Sep 19, 2014 Download for free at http://legacy.cnx.org/content/col11613/1.11
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