Unit-4: International Monetary &

Financial Systems
BY: SURENDRA LAMSAL
International Monetary and Financial Environment
Financing is important to the operations of multinational companies,
importers & exporters involved in the international trade.
It is necessary or pre-condition for smooth functioning and expansion of
international business.
Importers - purchase of goods and services, exporters - manufacturing of their
products, MNCs- for their operating.
The financial system involves key components i.e. foreign exchange market
and its operation, currency exchange control system etc.
MNCs, import and export companies must understand dynamics of foreign
exchange and exchange rate system if they have to survive in the market.
Domestic business - single currency; international business - 2 or more than
two currency
Foreign Exchange:
Any institution or system which deals with the currencies of other countries
Foreign Exchange Market:
The market in which these transactions are take place
An Exchange Rate:
It is the relative price of two currencies.
Simply, it is a rate at which one currency can be exchanged with another.
It is the amount of domestic currency which is needed to purchase one unit
of foreign currency.  EX: $1 = 115 NC
EX AFC or DDC   X , M

EX DFC or ADC X , M

i.e. PD = e.PF
Exchange Rate Systems
A. Floating or Flexible Exchange Rate:
It is system in which exchange rate is allowed to adjust freely as
determined by demand for and supply of foreign currency.
 Free floating / Pure / Clean float:
There is no government intervention at all in foreign exchange
market and determination of exchange rate
 Managed floating system / Dirty float:
There is government intervention in the foreign exchange
market and determination of exchange rate
Determination of Exchange Rate under Flexible Exchange Rate
System
 
Change in Exchange Rate
b. Fixed or Pegged Exchange Rate
It is a system in which country's exchange rate remains constant.
Before 1971 AD industrial world was on a fixed exchange rate system
called “Bretton woods system”.

 Fixed exchange rate exists when Central Bank fix a rate at which
currency will be exchanged
 Central bank acts as a buyer and seller of the foreign currency
 The objective of intervention is to neutralize the effects of change in
demand and change in supply.
Determination of exchange rate under fixed exchange rate
system.
Currency Convertibility
 Easy in International business when currency is easily convertible.
 IN practice a significant number of currencies are not freely convertible
 Currency Convertibility can be classified into three types:
1. Fully Convertible: A currency is said to be freely convertible when the
government or country allows both residents and non-residents to purchase
unlimited amounts of a foreign currency.
2. Externally Convertible: A currency is said to be externally convertible when
the government or country allows only non-residents to purchase a foreign
currency.
3. Non-convertible: A currency is non-convertible when both residents and non-
residents are not permitted to convert it into a foreign currency.
Hard vs Soft Currency
Hard Currency
 It is a currency which is fully convertible
 Strong and relatively stable in value in comparison to others
 EX: US dollar $, Euro, Japanese yen etc.

Soft Currency
 The currency which is not fully convertible
 Weak and relatively unstable in value in comparison to other
currencies
 EX: Currencies of developing countries
 Modes of Payment in international Business
 Advance Cash Payment
 In this method exporter collects payment through banking channel before
shipping goods to the importer.
 It involve risk for importer, so importer try to avoid advance cash payment.
 Letter of Credit
 It is most widely used method of payment in international business
 It is highly secure method as the payment is managed through the banking
system.
 It is agreement between the banks and importer and an exporter the
ensures payment from the importer to the exporter upon receipt of an
export shipment.
Open Account:
 In this method, the importer pays the exporter in future time after
receipting the goods.
 It involve risk for exporter and provide secure for importer.
 Counter Trade:
 it is relatively rare /A short of barter trade in which goods and
services can be traded for other goods and services.
 It is applicable when a country's currency is non-convertible.
 Counter trade occurs when goods and services cannot be traded for
cash but only for other goods.
Global Financial System (GFS)
Global financial system consists Financial Institutions with
facilitate and regulate investment and capital flow world wide
i.e. Central Bank, Commercial Bank , Forex Market , SE

Components of the Global Financial System (GFs)

 Foreign exchange market system
 Currency exchange control system by Central Bank
 Commercial banking system
 National Stock Exchange
Foreign exchange market
 Foreign exchange market is a global network where currencies are
traded to facilitate international business
 There is no central trading floor for foreign exchange market.
 Most of the activities are completed by individuals, government,
banks and foreign exchange dealers using telephone, cable and
mails.
 As a worldwide market, foreign exchange market operates 24
hours. The forex market never sleeps.
 Parties
 Exporters and importers
 Investors involved in foreign direct investment
 Portfolio investors
 Two segments of foreign exchange market
 ‘The over the counter’  OTC market
• No single physical market
• Central clearing mechanism exchange currency
• Not located in a particular place
• It includes bank that is investment and commercial where most of the
forex activities take place
 Securities exchange
It includes securities exchange such as Chicago mercantile exchange
Nature
 Market for trading Forex instrument (both traditional and modern
instruments are traded)
 Remarkable market for size, composition and location
• located in in several top cities
• largest centers are UK, US, Japan and Singapore
• It includes about 65%
 Dominance of US Dollar
• US dollar is the most important and widely used currency unit.
• Because, US dollar is an investment currency, reserve currency
and transaction currency
 It never sleeps