THE UNIVERSITY OF HONG KONG

HKU BUSINESS SCHOOL

FINA2330 AB– FINANCIAL MARKETS & INSTITUTIONS
FIRST SEMESTER, 2022-2023

Practice Questions 8 – International finance

MC Questions

1) If a country's central bank eventually runs out of international reserves, it cannot keep its
currency from ________ and a ________ must occur in which the par exchange value is
reset at a ________ level.
A) appreciating; revaluation; higher
B) depreciating; revaluation; higher
C) depreciating; devaluation; lower
D) appreciating; devaluation; lower

2) Policymakers may not want to see their country's currency appreciate because
A) this would hurt consumers in their country by making foreign goods more expensive.
B) this would hurt domestic businesses by making foreign goods cheaper in their
country.
C) this would increase inflation in their country.
D) this would decrease the wealth of the country.

3) When the Bundesbank lowered German mark interest rates in September 1992,
A) there was a massive sell-off of German marks, requiring intervention to support the
value of the mark.
B) there was a massive sell-off of British pounds, requiring intervention to support
the value of the pound.
C) there was a gradual sell-off of German marks, which avoided the need for intervention
to support the value of the mark.
D) there was a gradual sell-off of British pounds, which avoided the need for intervention
to support the value of the pound.

4) (I) Controls on capital outflows may increase capital flight by weakening confidence in the
government. (II) Controls on capital outflows are an inadequate substitute for financial
reform to deal with currency crises.
A) (I) is true; (II) false.
B) (I) is false; (II) true.
C) Both are true.
D) Both are false.

5) If the current account balance shows a surplus, and capital account receipts exceed capital
account payments, then the net change in government international reserves must be
________, indicating a(n) ________ in U.S. international reserves.
A) positive; increase
B) negative; increase
C) negative; decrease
D) positive; decrease
6) Which is not a problem of forward contracts?
A) A lack of liquidity
B) A lack of flexibility
C) The difficulty of finding a counterparty
D) Default risk

7) By selling short a futures contract of $100,000 at a price of 115, you are agreeing to
deliver ________ face value securities for ________.
A) $100,000; $115,000
B) $115,000; $110,000
C) $100,000; $100,000
D) $115,000; $115,000

8) Who would be most likely to buy a long stock index future?

A) A mutual fund manager who believes the market will rise
B) A mutual fund manager who believes the market will fall
C) A mutual fund manager who believes the market will be stable
D) None of the above would be likely to purchase a futures contract

9) If a firm is due to be paid in euros in two months, to hedge against exchange rate risk the
firm should
A) sell foreign exchange futures short.
B) buy foreign exchange futures long.
C) stay out of the exchange futures market.
D) do none of the above.

10) An option that gives the owner the right to buy a financial instrument at the exercise price
within a specified period of time is a(n) ________.
A) call option
B) put option
C) American option
D) European option

11) Suppose that the pension fund you are managing is expecting an inflow of funds of $100
million next year and you want to make sure that you will earn the current interest rate of 8%
when you invest the incoming funds in long-term bonds. How would you use the futures
market to do this?

As the pension fund manager, you are worse off if interest rate drops in the future, where you
face reinvestment rate risk. You may buy treasury bond futures in long position with time to
maturity set to the next year, so by the time of receiving inflow of funds, you may receive
compensation if interest rate drops, reducing the uncertainty to reinvestment rates.
12) Explain the advantages of protecting against interest-rate risk using options rather than
futures contracts.

Options allow you to realize upside returns just like futures when you bet in the correct
direction, but the downside is limited to the cost of option when the interest rate moves in
another direction. In the case of futures, the downside risk could be much larger.

13) By the end of 2012, China had accumulated more than $3 trillion of international
reserves. How did China accomplish this? Is the policy sustainable?

China adopts managed float exchange rate regime. China consistently gets massive trade
surplus, thus there is strong appreciation pressure on CNY. However, People’s bank of China
does not like it due to concerns on exports industry, so they intervene frequently by
purchasing foreign assets and selling CNY to the market, stopping currency appreciation.
This allows accumulation of foreign reserves in China.

This policy is not sustainable in the long run, because the rising labor costs in China already
leads to weakening in export growth. Current account surplus will fall in the long run. Capital
account surplus also falls because the income growth among Chinese nationals also
encourages more capital outflow to abroad.