International Finance: Theory and Practice

Course objective Nowadays the value of daily foreign exchange trading in more than one hundred times the value of annual international trade in goods and services. As result of the great importance of international financial transactions, the subject of international finance continues to develop as fast or faster than any other field in economics. This course aims to describe the most significant modern theoretical and institutional developments in the field of international finance and present the most important policy and empirical research.

Course outline (indicative) Week 1 Some basic concepts in international finance The exchange rate The balance of payments accounts Spot and forward exchange rates Foreign exchange market products and activities Foreign currency derivative instruments Floating exchange rates, fixed rates, managed floating Floating exchange rates since World War II: a brief history Exchange rate volatility Weeks 2-5 Arbitrage and international parity conditions Purchasing power parity Purchasing power parity in a perfect capital market - The law of one price, absolute purchasing power parity, relative purchasing power parity Relaxing the perfect capital markets assumptions - Transaction costs, taxes, uncertainty Empirical evidence on prices and exchange rates The Balassa-Samuelson hypothesis Trade costs Iceberg model

Interest rate parities Covered interest rate parity - The relationship between interest rates, spot rates and forward rates

Determination of the forward exchange rate by traders, arbitrageurs and speculators Uncovered interest rate parity Empirical evidence on covered and uncovered interest rate parity Covered and uncovered interest rate arbitrage with borrowing Real interest rate parity

Foreign exchange market efficiency The hypothesis of exchange market efficiency Empirical evidence on exchange market efficiency Famas analysis of the risk premium A model of the risk premium - Empirical tests Expectational explanations for the rejection of the exchange market efficiency hypothesis - Peso effects Survey data, expectations and risk Weeks 6-7 Exchange rate determination and forecasting Flow vs stock models of the exchange rate Asset models of the exchange rate - The monetary model The monetary model and rational expectations Rational speculative bubbles The Dornbusch overshooting model The portfolio balance model The news model Forecasting methods - Short-run vs long-run forecasts Technical analysis and the chartism Heterogenous expectations in exchange rate forecasting Volatility and correlation forecasts Modeling the real exchange rate Weeks 8-11 International capital flows and markets International money and capital flows Eurobanking Measuring international capital mobility International bond markets International equity markets

Derivative markets

Currency and interest rate futures - Distinction between futures and forwards, description of futures contracts, futures pricing and forward pricing, the term structure of forward rates Currency and interest rates options - Terminology and institutions, contract specifications, option pricing Currency and interest rate swaps - Origins and underpinnings of the swap market, the basic cash flow of a swap transaction, risks in swaps, the pricing of swaps Week 12

Financial crises Speculative attack models Contagion Interest rate, foreign exchange and credit risk Possible policy responses - Case studies

Recommended reading 1. Copeland, L. (2005) Exchange Rates and International Finance (4th edition). Prentice Hall. 2. Das, D. K. (2003) An International Finance Reader. Routledge. 3. Giddy, I. A. (1996) . . 4. Hallwood, C. P. and R. MacDonald (2000) International Money and Finance (3rd edition). Blackwell. 5. King, P. and S. King (2005) International Economics and International Economic Policy: A Reader (4th edition). McGraw-Hill/Irwin. 6. , . . (2003) . . 7. Levi, M. D. (2005) International Finance (4th edition). Routledge. 8. Levich, R. M. (2001) International Financial Markets (2nd edition). McGrawHill International Edition, Finance Series.