3. Money and currency
Money is something that is generally accepted by a
community as a measure of value and a medium for the
exchange of goods and services.
Currency covers not only the actual coins and paper
money in use in a country but also any credit
instruments which convey the right to wealth in terms of
given unit, such as cheque, bill of exchange.
4. Foreign Exchange
When a person makes a payment another person living in
the same currency, he uses any of the different forms of
money currency in the country.
But things are different when the debtor and the creditor
live in different countries.
There is a need for foreign exchange mechanism.
The banks which act as a third party facilitate the
transactions among the different parties involved in foreign
trade.
5. Foreign Exchange
Foreign exchange refers to the process or mechanism by which the
currency of one country is converted into the currency of another
country and, thereby involves the international transfer of money.
“Foreign Exchange" means foreign currency and includes any
instrument drawn, accepted, made or issued under clause (13) of
Article 16 of the Bangladesh Bank Order, 1972, all deposits, credits
and balances payable in any foreign currency and any draft,
traveller's cheque, letter of credit and bill of exchange expressed or
drawn in Bangladesh currency but payable in any foreign currency;
-FOREIGN EXCHANGE REGULATION ACT, 1947
6. FX Market development in Bangladesh -A look back
During 1971, Bangladesh did not have any forex reserve.
Since 1971 to Jan 09, 1972 our official currency was Rupee.
On Jan 10, 1972 our official currency becomes Taka and was pegged with
Pound Sterling. Per value of Taka was declared at 18.9667 per pound
sterling.
In 1983, pegging was shifted to USD.
Taka was declared convertible for current international transactions on
March 24, 1994.
Floating rate system was declared on May 31, 2003.
Forex reserve of the country reached at USD39 billion on September 2020.
7. Dealing in Foreign currency by the ADs and money changers
‘No person, firm or company other than an AD
or Authorised Money Changer is permitted to
deal in foreign currency in any form.’
BB Guidelines for F.Ex Transactions (Chapter 05, Sec-03, Para-13)
8. Fundamentals of foreign exchange management
1. Every country has its own currency – legal tender/
distinctive unit of account.
2. The conversation of one currency into another is effected
by banks by book-keeping entry carried out in the two
centres concerned
3. These exchanges are effected by means of credit
instruments like, draft, bill of exchange etc.
10. Foreign Exchange Rate
Exchange Rate is the price of one country's currency expressed in
another country's currency. In other words, the rate at which one
currency can be exchanged for another. e.g. BDT 84.9500 per one
USD.
Major currencies of the World
USD
EURO
YEN
POUND STERLING
11. Foreign Exchange Rate
DIRECT AND INDIRECT EXCHANGE RATE
Direct method - Under this, a given number of units of local
currency per unit of foreign currency is quoted. They are designated
as direct/certain rates because the rupee cost of single foreign
currency unit can be obtained directly. Direct quotation is also called
home currency quotation.
Indirect method – Under this, a given number of units of foreign
currency per unit of local currency is quoted. Indirect quotation is
also called foreign currency quotation
15. Foreign Exchange Accounts
1. Nostro Account:
‘Nostro’- a latin word means “Ours” account.
An account maintained by a bank in Bangladesh with a bank abroad i.e.
MTB. may maintain an account with Citi-Bank New York or with HSBC in
London ,for $ operations and £ operations respectively.
While corresponding with the Citi or HSBC MTB would refer its account
with former two as Nostro account, means our account with you. All
foreign exchange transactions are routed through Nostro accounts.
When the bank purchase foreign currency, the nostro account will be
credited by foreign bank.
17. Foreign Exchange Accounts
2. Vostro Account:
“Vostro” means “ Yours”
A foreign bank may open dollar account with an Bangladeshi bank. while
corresponding with the foreign bank maintaining an account with it, the
Bangladeshi bank would refer to the account as Vostro account meaning
your account with us. Bank of Baharin and Kuwait may open an account
with MTB and draw drafts on the account.
On presentation of drafts, the Bangladeshi bank would pay to the debit of
the foreign bank’s account with it. For exchange control purposes such
accounts are known as “nonresident bank accounts”
19. Foreign Exchange Accounts
3. Loro Account:
“Loro” means “their”
A payment made by one bank to another for account of a third bank is for
the credit of the “Loro” account of third bank.
21. Characteristics of FX Market
The FX market is an over-the-counter market.
There is no physical location where traders get together to exchange
currencies. Rather traders are located in the offices of major
commercial banks around the world and communicate using
computer terminals, telephones, telexes, and other information
channels.
The FX market is almost a 24 hour market.
Inter-bank traders are major players in FX market.
90% of trading takes place with respect to the US dollars.
The reasons for quoting most exchange rates against a common
currency (a “vehicle currency”)
22. Factors influencing FX Market
Commercial factors
Inflation
Capital investment
Short-term capital movement
Stock Exchange Transactions
Political factors
Speculations
23. Various systems of calcution of rate of exchange
Fixed exchange rate: A fixed exchange rate is a regime
applied by a government or central bank that ties the
country's official currency exchange rate to another
country's currency or the price of gold. The purpose of
a fixed exchange rate system is to keep a currency's value
within a narrow band.
Flexible exchange rate: Flexible exchange rate refers to the
system where the exchange rate is fixed, but is subject to
frequent adjustments depending upon the market
conditions.
24. Various systems of calcution of rate of exchange
Floating exchange rate: The free or floating exchange rate
means that the value of one currency in terms of another is
determined by the conditions of demand and supply of
foreign exchange in the market.
Managed Float: The rate of a currency is allowed to
fluctuate within a reasonable range as far as possible but
the Central Bank intervenes only where the market forces
cause violent fluctuations, to bring some order in the
market.
25.
26. Theories of Exchange Rate Determination
For the determination of the par values of different
currencies, alternative theoretical explanations have been
given. Some of the prominent explanations or theories
include:
1. Mint Parity Theory
2. The Purchasing Power Parity Theory
3. The Balance of Payments Theory
27. Theories of Exchange Rate Determination-Mint Parity Theory
The earliest theory of foreign exchange has been the mint parity theory. This
theory was applicable for those countries which had the same metallic standard
(gold or silver). Under the gold standard, countries had their standard currency
unit either of gold or it was freely convertible into gold of a given purity.
The value of currency unit under gold standard was defined in terms of weight
of gold of a specified purity contained in it. The price at which the standard
currency unit of the country was convertible into gold was called as the mint
price.
Suppose the official price of gold in Britain was £ 20 per ounce and in the
United States it was $ 80 per ounce, these were the mint prices of gold in the
two countries. The rate of exchange between these two currencies would be
determined as £ 20 = $ 80 or £ 1 = $ 4.
28. Theories of Exchange Rate Determination-
Purchasing Power Parity Theory
The purchasing power parity theory enunciates the determination of the rate of
exchange between two inconvertible paper currencies. This theory states that
the equilibrium rate of exchange is determined by the equality of the
purchasing power of two inconvertible paper currencies. It implies that the rate
of exchange between two inconvertible paper currencies is determined by the
internal price levels in two countries.
Suppose 10 units of commodity X, 12 units of commodity Y and 15 units of
commodity Z can be bought through spending TK. 1500 and the same
quantities of X, Y and Z commodities can be bought in the United States at an
outlay of 25 dollars. It signifies that the purchasing power of 25 dollars is
equivalent to that of TK. 1500 in their respective countries. That can form the
basis for determining the rate of exchange between Taka and dollar
30. Theories of Exchange Rate Determination-
The Balance of Payments Theory
The theory of balance of payments states that the rate of exchange in a free
world economy cannot be fixed but varies continuously with the variations in
the existing relation between the world demand for and supply of the currency
in the FX market.
we assume that there are two countries: Bangladesh and the USA. Let the
domestic currency be taka. US dollar stands for foreign exchange and the value
of taka in terms of dollar (or conversely value of dollar in terms of taka) stands
for foreign exchange rate. Now the value of one currency in terms of another
currency depends upon demand for and supply of foreign exchange.
31. Theories of Exchange Rate Determination-
The Balance of Payments Theory
(i) Demand for foreign exchange:
When Bangladeshi people and business firms want to make payments to the US
nationals for buying US goods and services or to make gifts to the US citizens or
to buy assets there, the demand for foreign exchange (here dollar) is generated.
A country releases its foreign currency for buying imports. Thus, what appears in
the debit side of the BOP account is the sources of demand for foreign
exchange. The larger the volume of imports the greater is the demand for
foreign exchange.
The demand curve for foreign exchange is negative sloping. A fall in the price of
foreign exchange or a fall in the price of dollar in terms of rupee (i.e., dollar
depreciates) means that foreign goods are now more cheaper
32. Theories of Exchange Rate Determination-
The Balance of Payments Theory
ii) Supply of foreign exchange:
In a similar fashion, we can determine supply of foreign exchange. Supply of
foreign currency comes from its receipts for its exports. If the foreign nationals
and firms intend to purchase Bangladeshi goods or buy Bangladeshi assets or
give grants to the Government of Bangladesh, the supply of foreign exchange is
generated.
A rise in the taka-per-dollar exchange rate means that Bangladeshi goods are
cheaper to foreigners in terms of dollars. This will induce Bangladesh to export
more. Foreigners will also find that investment is now more profitable. Thus, a
high price or exchange rate ensures larger supply of foreign exchange.
Conversely, a low exchange rate causes exchange rate to fall.
