Nominal Exchange Rate – Market Quotation

When you go to a bank, you see two rates: one for buying and one for selling. You also hear terms like "Direct Quote". Let's decode them.

1. Methods of Quotation

A. Direct Quote (Home Currency Price)

• Definition: Price of 1 unit of foreign currency in terms of home currency.
• Perspective: How much Rupees to buy 1 Dollar?
• Example (India): 1 USD = ₹ 83.50.
• Rule: "Buy Low, Sell High". Bank buys $ at 83, sells at 84.

B. Indirect Quote (Foreign Currency Price)

• Definition: Price of 1 unit of home currency in terms of foreign currency.
• Perspective: How much Dollars to buy 100 Rupees?
• Example (India): ₹ 100 = $ 1.20.
• Rule: Used mostly in London (GBP) and Eurozone.

2. Comparison: Direct vs Indirect

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Mathematical Relationship: Direct Quote = 1 / Indirect Quote.

3. Bid-Ask Spread

Banks never trade for free.

• Bid Rate: The rate at which Bank Buys (You sell).

• Ask (Offer) Rate: The rate at which Bank Sells (You buy).

• Spread: Ask - Bid. This is the bank's profit margin.

• Example: Quote USD/INR = 83.10 / 83.30.

  • Bank Buys $ at 83.10.
  • Bank Sells $ at 83.30.
  • Spread = ₹ 0.20.

4. Exam Notes: Writing the Answer

Question: "Explain Direct and Indirect Quote with examples." (5 Marks)

Answering Strategy:

1. Direct: "Price of 1 Unit of Foreign...". Example: 1$ = Rs 80.
2. Indirect: "Price of 1 Unit of Home...". Example: Rs 100 = $1.25.
3. Reciprocal: Mention they are reciprocals of each other.
4. Note: In India, Banks mandate Direct Quotes.

Quiz Time! 🎯

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