GLOBAL FINANCE WITH E-BANKING

PART III FOREIGN EXCHANGE MARKET

Foreign Exchange Market – the market in which exchange rates are determined.

– it is a place where the trading of currencies and bank deposits

denominated in particular currencies takes place.

Concept of Foreign Exchange Rate

Exchange Rate – also termed as the foreign exchange rate, forex rate or FX rate.

– the price of one currency in terms of another.

Note: When a currency increases in value, it experiences appreciation, but when it

falls in value and is worth fewer dollars, it undergoes depreciation. In every
exchange rate quotation, therefore, there are always two currencies involved.

Whenever there is a great demand for dollars or other foreign currencies and the
Bangko Sentral has no adequate supply of such foreign currencies, then the value of foreign
currencies increases. In short, foreign exchange rates are basically determined by law of
supply and demand. If a central bank has no sufficient international reserves, it imposes
controls on demand, such as import control and other similar measures so as to prevent the
devaluation of the peso.

Importance of FOREX Rate

1. affects the relative price of domestic and foreign goods. The dollar price of
Philippine goods to American is determined by the interaction of two factors: the
price of Philippine goods in peso and the dollar/peso exchange rate.
2. It serves as the basic link between the local and the overseas market for various
goods, services and financial assets. Using the exchange rate, we are able to
compare prices of goods, services, and assets quoted in different currencies.
3. affects the cost of servicing (principal and interest payments) on the country’s
foreign debt. A peso appreciation reduces the amount of pesos needed to buy
foreign exchange to pay interest and maturing obligations.

Kinds of FOREX Rate Transactions

1. Spot Transactions – the predominant type of exchange rate transaction which

involves the immediate exchange of bank deposits denominated in different
currencies.
2. Forward Transactions – a transaction that involves the exchange of bank
 deposits denominated in different currencies at some specified future date.

Spot Exchange Rate – the exchange rate for a spot

transaction. Forward Exchange Rate – the exchange
rate for a forward transaction.

Changes in Exchange Rates

Under a floating exchange rate system, if more dollars are demanded than are
offered, the price of the dollar in terms of the peso will tend to increase; that is, it will cost
more pesos to acquire one dollar. If, on the other hand, more dollars are offered than are
demanded, the value of the dollar in terms of the peso will tend to decrease; that is, it will
cost less pesos to acquire
one dollar. In contrast, under a fixed rate system, a change in the exchange rate is affected
through an official announcement by the central bank.

Floating/Flexible Exchange Rate System

– a system where the price of the dollar relative to the peso is determined by
the free market forces of demand and supply.
– at present, this is our country`s foreign exchange rate policy.

Types of Exchange Rates in the Basis of Monetary Policies

1. Adjustable pegged rate – is fixed by the monetary authorities regardless of

demand and supply conditions in the market. The IMF may impose a fixed rate
of exchange in pursuance to restrictive policies in order to correct
disequilibrium in the balance of payments. It was also a measure to correct
deficit in the balance of payment.

2. Free floating rate without official interventions – the opposite of the pegged
rate wherein the rate of exchange is determined by the interplay of demand
and supply condition at the foreign exchange market. The monetary
authorities do not intervene to influence the rate.

3. Free floating rate with official intervention – this is known as the dirty float.
The monetary authorities allow the rate to fluctuate in accordance with the
demand and supply factors but the government intervenes in cases of extreme
fluctuations through open market operations. The Philippines is presently
adopting this policy.

Participants in the Foreign Exchange Market

1. Foreign Exchange Dealers – they are those who are engaged in the buying and
selling of foreign exchange and who makes profit out of the difference
 between the buying and selling of foreign exchange. In includes institutions as
well as individuals and brokers who act as middlemen in the foreign exchange
market.

2. Foreign Exchange Suppliers – they are those earn foreign exchange and, who sell
their money at the foreign exchange market in terms of domestic currency and
sometimes in other foreign currencies. Hence, creates supply of foreign exchange
in the market.

3. Foreign Exchange Users – they are those who are in need of foreign exchange such
importers, Filipino tourists and students studying abroad.

The Bangko Sentral ng Pilipinas (BSP) maintains a floating exchange rate system.
Exchange rates are determined on the basis of supply and demand in the foreign exchange
market. The role of the BSP in the foreign exchange market is principally to ensure orderly
conditions in the market. The market-determination of the exchange rate is consistent with
the Government’s commitment to market-oriented reforms and outward- looking strategies
of achieving competitiveness through price stability and efficiency.

In the Philippines, peso-dollar trading among Bankers Association of the

Philippines (BAP) member- banks and between these banks and the BSP are done through
the Philippine Dealing System (PDS).

Philippine Dealing System – the inter-bank foreign exchange center in the

Philippines. Here banks engage in buying and selling of foreign exchange with each
other.
Philippine Dealing and Exchange Corp. (PDEx) – an electronic platform wherein
the BAP-member banks participate in peso-dollar trading.

The BAP appointed PDEx as the official service provider for the USD/PHP spot trading
(which involve the purchase or sale of the US dollar for immediate delivery, i.e., within one
day for US dollars), and Reuters, as the exclusive distributor of all PDEx data. Trading through
the PDEx allows nearly instantaneous transmission of price information and trade
confirmations. Meanwhile, banks which do not subscribe to PDEx can continue to deal peso-
dollar spot transactions via their Reuters Dealing screens.

Commercial banks in the Philippines are allowed to engage in spot, outright forward,
and swap transactions in Philippine pesos/US dollar and other third currency transactions.
Interbank trading is conducted among member-banks of the BAP, and between these banks
and the BSP. Member-banks of the PDS can also deal through brokers.

At present, there are two foreign exchange brokers in the Philippines,

1. Tulett Prebon (Philippines), Inc.

2. CAP Philippines Inc.

For third currency trading, most commercial banks use the Reuters Dealing and the
Bloomberg Financial Services. The US dollar and Philippine peso legs of the PDS
transactions are settled in a Payment-versus- Payment (PvP) electronic system for the
local interbank spot and forward foreign exchange market.

The PvP links two real-time gross settlements systems:

1. the BSP’s Philippine Payments and Settlements System (PhilPaSS) for the peso
transactions
2. the Philippine Domestic Dollar Transfer System (PDDTS) for dollar transactions.

Philippine Depository and Trust Corporation (PDTC) - the designated clearing entity for
peso-dollar transactions of commercial banks under the BAP.

The PDDTS - is a local clearing and electronic communications system operated by the
BAP, the Philippine Clearing House Corporation (PCHC), Philippine Securities and
Settlements Corp. (PSSC) and Citibank, Manila.

- it provides the banking industry with a facility to move US dollar funds

from one Philippine bank to another on the same day without having to go through
correspondent banks in the US. The system allows online, real-time gross settlement of
domestic interbank US dollar transfer and third party account-to- account US dollar
transfers.

In addition, it provides a facility for online inquiry and settlement of foreign exchange
transactions, where the PDDTS participants enter interbank US dollar and Philippine peso
transfer instruction in a single screen.