Textbook Chapters 5 - 8 rated 5 star revision guide

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Chapter 5 Overview Global financial markets promote the exchange of goods and services across national borders. The price of goods and services exchanged is based on supply and demand in the global... markets. In addition to numerous industrial products exchanged within the global financial market, various types of commodities and resources are bought and sold including food, shares of stock, national currencies, gold, and even labor services. Buyers and sellers negotiate the quality and quantity of a particular product, what buyers are willing and able to pay for the product, and the commissions paid for conducting the transactions.1 Global financial markets include both physical and virtual market places that make the cross-border exchange of goods and services between buyers and sellers possible. This exchange is accomplished by using a monetary unit of account to pay for various transactions. In most cases, these transactions are executed via the foreign exchange market-a global market in which people trade one currency for another. Major financial markets are located in cities throughout the world. The most prominent are located in New York City, Tokyo, and London. The Importance of Global Financial Markets The economies of the world have become highly interdependent because of improvements in communication and transportation technologies and the lowering of barriers to trade. This increase in the marketing of goods and services has contributed to standard of living improvements across national economies, most notably in developing nations. Specific goods produced in one nation are offered for sale in the world market and compete against products produced in other nations. This competition allows buyers and sellers to juxtapose quality and prices in their respective currency to other national currencies2. The end result of the global competition is higher quality products and lower prices for consumers. Mechanisms, such as the foreign exchange market, facilitate global financial market activities. Global financial markets involve both borrowers and lenders. Importance to Borrowers Global financial markets are important to borrowers for two reasons such as (1) to expand the supply of money, and (2) reduce the cost of money. The supply and cost of money has a powerful effect on economic activities. Borrowers use the lending options of financial institutions to make major purchases of goods, property, and business ventures. The increased capital that borrowers acquire from financial institution s supplements disposable income, which encourages increased spending. Businesses react to increased spending by ordering more raw materials to increase the production of goods. This stimulation of business activity increases the demand for labor and raises the demand for capital goods.3 The quantity of money in a nation can affect the price of goods and services and employment. In the United States, the Federal Reserve Bank is responsible for regulating the growth of the economy, which is accomplished by the increase or decrease of money supply.4 Other nations and economic unions have similar institutions such as the Bank of England, the Bank of Japan, and the European Central Bank. The overspending of money by borrowers (both consumer and industrial) helps perpetuate the expansion of the money supply. The public begins to experience the effects of inflation with an expanding money supply. Inflation essentially decreases a consumer 's purchasing power by making goods and services more expensive, which leads to wage price spirals because too much money is circulating. Consumers attempt to offset inflation by exchanging the lower value currency for something that is perceived to hold a value better such as property, gold, or foreign currencies. Importance to Lenders Global financial markets are important to lenders for two major reasons: (1) expanding lending opportunities and (2) reducing risk. Financial institutions (commercial banks, credit unions, life insurance companies, and investment companies) are, simply put, in the business of making money. These institutions make money by accepting customers' deposits and using these funds for purchasing investments, such as government securities, or offering loans to businesses and individuals for business start-ups and real estate purchases. Earnings from the interest and fees charged to business and individuals on loans, in addition to purchased government securities, enable a financial institution to pay interest on depositors' accounts for the use of their funds. Conversely, this permits a financial institution to expand their activities and services to make more money.5 Lenders expand lending opportunities by offering borrowers different lending options. Typical options include the following: • Variable Interest Rate Loans-the borrower and lender share the interest rate risks. Initially, the lender offers a lower interest rate with the premise of rising along with the prime interest rate over the term of the loan • Secured Loan-interest rates on loans secured by some type of collateral property or savings account shares • Short-Term Loan - traditionally, short-term loans bear lower interest rates by comparison to long-term loans • Up-Front Cash6 Reducing Risk Minimizing economic risk is a major consideration and task across global financial markets. In ideal functioning markets, speculation and insurance assist in the reduction of unavoidable risks associated with uncertainties, such as unemployment, catastrophic losses, and diminished business revenue. Speculators buy and sell commodities with the intention of making profits on price differentials across global markets. They are in the business of moving goods across regions where the price is low to markets where the price is high. Investors often will buy insurance to reduce the potentially disastrous declines in utility from natural disasters, death, and the like. Insurance helps spread large risks, to the extent that they become acceptable to a greater number of investors .7 Foreign Exchange Markets The Foreign Exchange Market (FX} is a physical and virtual institutionalized structure through which the currency of one country is exchanged for the currency of another country, known as exchange rate. It is a market place where the exchange rate is deter mined and where transactions take place. The progress of trading relations between nations has enabled international trade to evolve into a multifaceted operation where conversion of one currency to another is possible. International trade has evolved into the development of a market through which any currency can be traded or Exchanged. After the Gold Standard was discontinued in 1971, the FX Market followed the rule of supply and demand, and currencies started to flow freely between sellers and buyers in currency markets. The FX Market has gradually evolved into the largest, fastest, and most flexible currency trading market in the world. Operations continue around the clock every day with minimal breaks for weekends. According to the Bank for International Settlements 2016 Triennial Survey, turnover in traditional foreign exchange instruments is $5.1 trillion per day, which is down from $5.4 trillion in 20138. The largest trading centers of the FX are located in Tokyo, London, and New York. Integration of modern technology and globalization of financial markets provides real-time information and real-time trading; this enables traders, investors, banks, multinational corporations, and governments to participate in FX daily [Show More]

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