The Forward Exchanges-(Continued)

Abstract

H ' tAVING described the operations of the bank dealer in buying, selling, and covering his transactions on the forward exchange market, we turn to an analysis of certain typical transactions in forward exchange. 2. Types of transactions in which forward contracts are used.The type of transaction generally cited by the textbooks as giving rise to a forward exchange contract is the purchase by an importer, or sale by an exporter, of goods in terms of a foreign currency. An importer who has contracted, or is about to contract, for goods in some foreign currency, wishing to insure himself against fluctuations in the exchange rate, buys the currency which he will need to meet his obligation one, two, or three months hence in the form of forward exchange. By doing so he knows immediately what his cost will be in terms of his own currency. If he waited, he might have to pay considerably more for his goods than the spot exchange rate existing at the time of making his decision would have indicated. Of course, he might have to pay considerably less, in terms of sterling (which I will use throughout as the domestic currency) if the rate rose. But the merchant is ordinarily not an exchange speculator, and he desires every bit of certainty he can get in his business. The existence of a forward market enables him to quote his buying prices in terms of foreign currencies and at the same time know what they will be in terms of his own. Similarly, the exporter who makes, or is about to make, a sale to a foreign buyer in terms of the buyer's currency is enabled to sell the currency forward, and thus insure his sterling price against a rise in the rate. To the merchant making this sort of a transaction, the amount of the discount, if he is a seller, or of the premium, if he is a buyer, on forward, as compared to spot, is considered as an insurance cost. If the forward rate is at a premi-