1. How can changes in foreign exchange rates affect the profitability of financial institutions?
Foreign exchange rate determines the price exchange of two currencies. Changes in these rates affects the amount of goods and services import and export of a country. When a country currency is stronger, it is now exchanged for more goods than before, and once the currency is weaker, less of goods are purchased for the same amount of the currency. Financial institutions use the exchange rates changes to decide whether to buy/sell financial assets such as bonds, stocks, etc. That means, they will buy and sell foreign assets to gain profit. The value of these assets increases or decreases as the exchange rates change. If the dollar is getting stronger, for instance, then financial institutions are able to buy more of a foreign currency since the dollar is worth more of that foreign currency. Hence, the demand of financial institutions for foreign currency, or foreign investments increases, and vice verse. fluctuations in exchange rates causes instability in any financial markets, as the risk to invest is higher due to uncertainty. For that reason, the financial institutions are negatively affected by these fluctuations. More fluctuation-bigger risk-less demand for trading internationally.
2. Comment on the following statement: “Because corporations do not actually raise any funds in secondary markets, they are less important to the economy than primary markets”.
This is not necessarily true. The secondary markets determine the value of these corporations, and fluctuations and volatility of the traded shares of these corporations reflects their potential success and whether they will be profitable to invest in. The primary market does raise the initial funds for the company’s investment purpose. However, the price of these shares traded in the primary market are determined by the secondary market prices (that express the company’s success or the...
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