University of the West of England

Faculty of Business and Law

Department of Accounting, Economics and Finance

Module Handbook

Year 2021-2022

MODULE TITLE:

ECONOMICS OF INTERNATIONAL FINANCIAL MARKETS

MODULE CODE: UMED8V-15-3

Level: 3

Module leader

Dr. Yanhui (Cathy) Zhu

Office: 3X218a

Email: [email protected]

Tel: 0117 328 3729

Contents

1. Introduction

This level-3 15-credit module is designed for final-year students of Economics, Business Management and Economics and Banking and Finance, who may wish to pursue a career in financial services industry, continue to study at a postgraduate level in economics or finance, or simply acquire a good body of knowledge of international financial markets and improve transferrable skills. It aims to give students a thorough understanding of the nature and characteristics of the instruments traded in international financial markets, to demonstrate how to use the established theories to price these instruments and to encourage discussions of the recent events and trends in the development of international financial markets. In particular, this module will examine the market of bond, foreign exchange, stock and derivatives and the theory of interest rate, exchange rate, stock valuation, and the efficient market hypothesis. Students will also learn about the theories and rationales behind central bank intervention in financial markets and the choices of exchange rate regimes. On successful completion of this module students will be able to predict the price movement of financial instruments, extract information on economic activity from analysing financial markets, use derivatives in risk management and comment on the recent development in international financial markets.

Module Team

Module leader: Dr Yanhui (Cathy) Zhu

Senior lecturer in economics

[email protected]

3X218a

Tutor: Dr Imran Shah

Associate lecturer in economics

[email protected]

If you feel uneasy about any aspect of the module or you encounter study problems, please feel free to make an appointment to meet the module leader for an informal chat. The easiest way to contact Cathy is to send an email. You can also come to see Cathy in 3X218a at the office hour from 12 pm to 2 pm on Tuesdays without an appointment.

2. Learning Outcomes

Having successfully completed this module, the student should have:

The ability to distinguish the key functions of a financial system

A good understanding of the importance of international finance in the world economy

The ability to explain various instruments traded in different international markets

A solid understanding of risk-return trade-off faced by investors

The ability to identify and apply key financial measures and ratios

A good understanding about the information content of financial markets

A good understanding on the pricing of selected securities

The ability to critically evaluate the efficient market hypothesis

A good understanding of the impact of quantitative easing on financial markets

The ability to explain the mechanism of central bank intervention in financial markets

The ability to explain the features of all popular derivatives and how to make use of them in practice for risk management

An ability to analyse and explain recent events in international finance

3. Organisation of the Module

3.1. Teaching and Learning Methods

The module has a one-hour lecture, a one-hour lectorial and a one-hour seminar each week. The lectorial is an online interactive synchronous session where the lecturer introduces concepts and theories and demonstrate how to find relevant data and news using Bloomberg software. The lecture is an on-campus face-to-face session where the lecturer demonstrates how to apply theories in practice and present evidence for and against theories. The seminar in an on-campus face-to-face session where students are encouraged to discuss issues and complete exercises under the guidance of lecturers. Topics presented in lectures are explored in more depth in seminars. The slides for lectures and lectorials and question sheets for seminars are uploaded to Blackboard at least one week in advance. It is recommended that students attend all sessions and come to seminars prepared. Please note that the lecture/lectorial and seminar programme will form the basis of the end-of-term examination.

The module requires a basic level of mathematics and we will develop your skills a little further through the application of various asset pricing models. We also expect students to develop high-level communication, critical thinking and problem-solving skills.

3.2. Student responsibilities

Lectures/lectorials

You should be aware that lectures/lectorials are designed to provide a framework for discussion and analysis. They provide insights into issues and debates, as well as highlighting the importance of people, places and events. In other words, the lectures/lectorials set out the context in which a more detailed examination is undertaken in the seminars. Your responsibility therefore is to attend these lectures/lectorials on a regular basis. Failure to do so may seriously affect your ability to keep abreast of the course and hence impact on your final grade.

Seminars

A seminar is designed to enable students to investigate an issue or theme in greater detail. The onus is on you to keep up to date with the reading on a weekly basis. Seminars work better if everyone has done some preparatory reading, has thought about interesting questions to ask and has come along prepared to discuss the theme in question. Do not leave it to others to do the work. As you can see the reading lists for seminars are extensive. The purpose is twofold: to give an idea of what is available in our library; and to introduce various opinions expressed by a number of authors. This does not mean that just because a book is not listed here that it may not be relevant to the course. We would encourage you from the outset to explore the wide variety of material contained in our library, which can be equally useful when preparing for a seminar or writing an essay. Equally important, you are strongly encouraged to use journal articles, which publish the latest research. Articles are extremely useful because they concentrate on a specific issue or debate. They get to the heart of a debate and therefore provide insight into complex issues. So get into the habit of using the journals for all facets of your work.

Library

A final point concerns the library system. You are expected to use the full potential of the UWE library system. As a multi-campus institution, resources are scattered. Books and periodicals may be housed on only one site. So be prepared, especially when preparing essays, to use the inter-site loan system or (better still) travel to the other sites to obtain relevant material.

3.3. Staff responsibilities

Staff will endeavour to produce useful, interesting and thought provoking lectures, which are well informed by up-to-date secondary literature and, where appropriate, by visual aids. In seminars tutors will help to generate and sustain discussion while at the same time recognising the students’ responsibility to stimulate debate. They will also try their best to return work, with detailed feedback, within 20 working days of the submission date. Staff will be available to discuss your work on a one-to-one basis at specified times. In addition, they will make time to discuss issues raised by the group in the regular weekly seminar slot.

3.4. Facilities and Resources

For this course you will mainly need to access the library. Selected books, relevant to the course and listed at the end of the PowerPoint slides, are available on short loan in the library. The last section of the module handbook also recommends the underlying textbook. It is recommended that you buy this book and that you have one of the most recent editions.

It is recommended that you read the Financial Times regularly. The campus bookshop sells it at a reduced price.

Again, in the last section of the module handbook, are selected websites which you will find useful for your preparations of the seminars.

4. Module Programme and lecture details

Week commencing	Lectorial	Lecture
11.10.2021	Introduction to the module	The definition of interest rate and its negative relationship with bond price
18.10.2021	The two frameworks of interest rate determination – bond market approach and Keynes’ liquidity preference framework	The causal relationship between interest rate and inflation expectation, business cycle, money supply growth and government budget deficit
25.10.2021	The theories of term and risk structure of interest rates	The credit market indicators of recession and the impact of Quantitative Easing on long-term interest rates
01.11.2021	The theory of long-run exchange rate: Purchasing Power Parity (PPP), tariff, productivity and international competitiveness	The empirical evidence on PPP and the importance of measuring GDP using PPP method
08.11.2021	The theory of short-run exchange rate: asset market approach and balance of payment	The causal relationship between exchange rate and interest rate and money supply
15.11.2021	The theory of FX intervention and exchange rate regimes	The analysis of speculative attack, accumulation of international reserves and the risk associated with chronic current account deficits
22.11.2021	Risk, Return and Diversification	Modern Portfolio Theory
29.11.2021	Capital Asset Pricing Model (CAPM)	Stock Valuation Models
06.12.2022	Growth, Risk, Investment Policy and Stock Price	Efficient Market Hypothesis
13.12.2022	The definition and characteristics of forward, futures and options	The popular risk management strategies using derivatives
Christmas vacation (20.12.2021 – 09.01.2022)
10.01.2022	Revision
The assignment brief is to be released via Blackboard on Oct 15th 2021. The assignment deadline is Dec 7th 2021. The mid-term module evaluation is to be conducted in the week commencing Nov 15th 2021. The end-of-term module evaluation is to be conducted in the week commencing Jan 10th 2022.

Seminars are held one week after the lecture, covering the topic of the lectures in the previous week. The electronic version of seminar questions will be uploaded to the Blackboard one week in advance. For a detailed description of lectures, see the sections below.

5. Assessment

5.1 Regulations

Regulations governing assessment are contained in the handbook relating to the course. You are advised to study these carefully. As far as this module is concerned, there are two elements to the assessment.

‘Element A’ is an online open-book exam to be completed within a 24-hour window. You will be required to answer four questions from a list of eight.

‘Element B’ is an essay of up to 2,000 words, to be distributed on October 15^th, 2020. The essay must be submitted electronically via blackboard by 2.00pm (the latest) on Tuesday 7^th December 2020.

The mark of element A will weigh 70% in the overall module mark and that of element B will weight 30%.

5.2 Guidelines

Essay:

As a guide to achieve a first (i.e. 70% and above) you would need to demonstrate a sound grasp of relevant theory, informed by wide reading especially of current literature. The piece is entirely relevant to the topic as well as being clearly structured in relation to it. The discussion is handled with ‘authority’.

A mark of 65% (mid-point of the upper second class range) will require you to show evidence of accessing, analysing and concisely reporting a wide range of issues, theories and data relevant to your chosen topic.

A competent essay, but one which does not extend beyond materials covered in lectures and seminars, would be awarded a mark around 55%.

Where there is some evidence of misunderstanding of the relevant theory, but nonetheless the rest of the project is coherent and reasonably well structured, the mark is likely to be around 45%.

An essay that fails to incorporate relevant theory or fails to grasp the technical complexity of the topic will fail.

5.3. Second Assessment Opportunity (Referral)

Failure in the first assessment will entail you taking a ‘resit’ assessment in July 2022.

Referral in the examination (component A) element of the module will involve an online open-book exam with 8 questions, among which 4 have to be answered.

Referral in the coursework (component B) element of this module will involve completion of one essay with a maximum length of 2,000 words. The topic for the referral essay will be distributed by the mid of June 2022. The submission of the assignment will be via Blackboard. The specific date of submission will be released later in the year.

6. Assessment Offences – Cheating, Collusion and Plagiarism

Please read carefully the following definitions of cheating, collusion and plagiarism. These are serious offences and it is very important that you know how to avoid them. The University procedures for dealing with allegations of assessment offences are laid out in the UWE Student Handbook, and in the Academic Regulations (E12a).

6.1. Definitions

6.1.1 Cheating (in the widest sense of the word) is the use of unfair means of presenting work for assessment. It is a serious academic offence as it prevents examiners from being able to make a realistic judgement of a student’s knowledge, understanding, ability and/or creativity.

6.1.2 Cheating in an examination includes:

a) taking aids (eg notes, books, mobile phones, equipment) into an examination room which are not authorised for use in that examination

b) copying another student’s work

c) seeking or obtaining help from another person

d) assisting another student with an examination

6.1.3 Collusion includes:

a) presenting work as one’s own which is derived from unauthorised collaboration with others

b) assisting another person by giving substantial help with ideas or with text which are not then acknowledged.

6.1.4 Plagiarism is a form of theft. It includes:

a) the quotation of another person’s words without quotation marks

b) the quotation of another person’s words or ideas without acknowledgement

c) the use of another person’s ideas without acknowledgement

d) the use of another person’s facts or experimental results without acknowledgment.

6.1.5 It is also an assessment offence to prevent another student from being able to be examined properly.

6.2. Avoiding Cheating in Examinations

6.2.1 Students can ensure that they do not unwittingly cheat in examinations if they

a) take into an examination only those items which have been authorised. Particular care must be taken with programmable calculators and dictionaries which can only be used if specifically authorised.

b) follow carefully the “Instructions to Candidates” (Examination Regulation 2) and communicate with no-one except an invigilator during an examination.

6.3. Avoiding Collusion

6.3.1 Most collusion is unintentional. Students are often required to work on a topic or activity in groups and then to produce individual work for assessment. They must be careful to follow the instructions regarding the assessment. Some assessments may require the group to produce joint ideas or proposals, whereas others might assign this initiative to the individual. Unless the instructions specifically require a group report, students must produce their own written work without the help of other people.

6.3.2. It is a normal part of the learning process for students to discuss ideas for written work with each other. However, students should be cautious about lending essays, computer files or laboratory reports to other students in order to avoid the danger of the second student producing an essay or laboratory report similar to that of the first student.

6.3.3. Discussion between students can be a good way of learning: however, students should be careful to ensure that they think out and write the detail of their essays/assignments by themselves.

6.4. Avoiding Assessment Offences

6.4.1. In order to produce good essays, assignments, etc, it is expected that students will base their ideas on several sources and will quote from them. Plagiarism is often a result of poor academic practice rather than a deliberate attempt to cheat. Good academic standards require that –

a) any phrase or longer text which is taken from another author must be quoted precisely using quotation marks and the bibliographical reference

b) where an author’s text is summarised the summary must be in the student’s own words. Merely changing the order of words or using synonyms does not form an acceptable summary

c) any facts, tables, diagrams or experimental results taken from another person must be acknowledged and referenced

d) any ideas or conclusions taken from another person must be duly acknowledged and referenced.

7. Source material

A specific reading list covers the workshop material and further reading for lectures The reading list can be found by clicking the link below.

https://rl.talis.com/3/uwe/lists/3241148B-9E39-21E3-7A39-A93D4A9CD951.html?lang=en-US&login=1

This will be updated during the course of the module as individual lecturers wish to keep the material as current as possible.

The textbook recommended for purchase is:

Mishkin, F. (2016): Economics of Money, Banking and Financial Markets, Global ed., Pearson)

Other useful textbooks are:

Bodie, Z., A. Kane and A. Marcus (2018), Investments, 11^th ed., McGraw-Hill

Pilbeam, K. (2013), International Finance, 4^th ed., Palgrave Macmillan

Eicher, T., J. H. Mutti and M. Turnovsky (2009), International Economics, 7^th ed., Routledge

Articles:

Gale, William G., and Peter R. Orszag. (2004) “Budget Deficits, National Saving, and Interest Rates.” Brookings Papers on Economic Activity, vol. 2004, no. 2, 2004, pp. 101–187. JSTOR, www.jstor.org/stable/3805107 Accessed 23 Sept. 2020.

Abel, A.B. (2008) “Ricardian Equivalence Theorem”. In: Palgrave Macmillan (eds) The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. https://doi.org/10.1057/978-1-349-95121-5_1752-2

Goy, Gavin, and Jan Willem van den End (2020) “The impact of the COVID-19 crisis on the equilibrium interest rate.” VOX, CEPR Policy Portal. https://voxeu.org/print/65453.

Malkiel, B.G. (2008) “Term Structure of Interest Rates.” In: Palgrave Macmillan (eds) The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. https://doi.org/10.1057/978-1-349-95121-5_1596-2

Estrella, Arturo and Mary R. Trubin (2008) “The Yield Curve as a Leading Indicator: Some Practical Issues.” Current Issues in Economics and Finance, Federal Reserve Bank of New York. https://www.newyorkfed.org/research/current_issues/ci12-5.html

Bauer, Michael and Glenn Rudebusch (2011) “Signals from Unconventional Monetary Policy.” FRBSF Economic Letter, Federal Reserve Bank of San Francisco. https://www.frbsf.org/economic-research/publications/economic-letter/2011/november/unconventional-monetary-policy/

Office of National Statistics (2019) “UK Balance of Payments, The Pink Book: 2019.” Office of National Statistics.

https://www.ons.gov.uk/economy/nationalaccounts/balanceofpayments/bulletins/unitedkingdombalanceofpaymentsthepinkbook/2019

Slivinski, Stephen. “Federal Reserve : An Anchor of Gold: How the Gold Standard Works in Theory and Practice,” in Federal Reserve Bank of Richmond. Second Quarter 2010, Volume 14, Number 2, 7-9.

https://fraser.stlouisfed.org/title/3941/item/476948/toc/503456,

accessed on September 23, 2020.

Perold, André, F. 2004. “The Capital Asset Pricing Model.” Journal of Economic Perspectives, 18 (3): 3-24.DOI: 10.1257/0895330042162340

Bartolini, Leonardo, Linda Goldberg, and Adam Sacarny (2008) “How Economic News Moves Markets.” Current Issues in Economics and Finance, Federal Reserve Bank of New York. https://www.newyorkfed.org/research/current_issues/ci14-6.html

Damodaran, Aswath (2006) “Valuation Approaches and Metrics: A Survey of the Theory and Evidence.” Foundation and Tends in Finance, 1, pp. 693-784.

http://people.stern.nyu.edu/adamodar/pdfiles/papers/valuesurvey.pdf

Lo A.W. (2008) “Efficient Markets Hypothesis.” In: Palgrave Macmillan (eds) The New Palgrave Dictionary of Economics. Palgrave Macmillan, London. https://doi-org.ezproxy.uwe.ac.uk/10.1057/978-1-349-95121-5_42-2

Haltom, Renee Courtois. “The Price Is Right? : Has the Financial Crisis Provided a Fatal Blow to the Efficient Market Hypothesis?” , Econ Focus (Federal Reserve Bank of Richmond) (Fall 2009) : 18-21.

https://fraser.stlouisfed.org/title/3941/item/476946/toc/503425,

accessed on September 23, 2020.

Malkiel, Burton, G. 2003. “The Efficient Market Hypothesis and Its Critics .” Journal of Economic Perspectives, 17 (1): 59-82.DOI: 10.1257/089533003321164958

Websites:

Financial Times: http://www.FT.com

Bloomberg Fixed-income: https://www.bloomberg.com/markets/fixed-income

Bloomberg FX: https://www.bloomberg.com/fx-center

St. Louis FRED Economic Data: https://fred.stlouisfed.org/

London Stock Exchange: http://www.londonstockexchange.com

International Capital Market Association: https://www.icmagroup.org/

Credit Rating Agency: http://www.moodys.com

Faculty of Business and Law Academic Year: 2020/2021 Assessment Period or Date: 1

Module Leader: Yanhui Zhu

Module Code UMED8V-15-3

Module Title: Economics of International Financial Markets

Examination Duration: The assessment window of availability is 24 hours.

ONLINE EXAM

Instructions to Students:

There are two sections of the exam. Students must answer all four questions from section A and any two questions from section B.

The questions in Section A carry 10 marks each. Marks are awarded to appropriate methods (formula, model etc.), correct numerical answers and clear and brief explanations. The questions in Section B carry 30 marks each. Marks are awarded to detailed analysis, appropriate use of graphs and clear presentation of examples/evidence.

As is usual for an exam, for this assessment you are not expected to include full referencing, but are encouraged to cite the sources of key theories, models, case studies, statutes etc.

This is an individual assessment: do not copy and paste work from any other source or work with any other person during this exam. Text-matching software will be used on all submissions.

There is no +/- 10% on word count and anything after the maximum word count will not be marked, in line with UWE’s Word Count Policy. The word limit for the entire paper is 2,000 words.

Formatting

Please use the following file format(s): Word, PDF. We cannot ensure that other formats are compatible with markers’ software and cannot guarantee to mark incorrect formats.

Please include the module name and number and your student number (not your name).

Please indicate clearly which questions you are answering.

Instructions for submission

You must submit your assignment before the stated deadline by electronic submission through Blackboard.

Multiple submissions can be made to the portal, but only the final one will be accepted. Please save your work frequently.

It is your responsibility to submit exam in a format stipulated above

Your marks may be affected if your tutor cannot open or properly view your submission.

Do not leave submission to the very last minute. Always allow time in case of technical issues.

The date and time of your submission is taken from the Blackboard server and is recorded when your submission is complete, not when you click Submit.

It is essential that you check that you have submitted the correct file(s), and that each complete file was received. Submission receipts are accessed from the Coursework tab.

There is no late submission permitted on this timed assessment.

Section A:

Consider a bond with a par value of £1,000, a coupon rate of 8%, a maturity of 20 years and one coupon instalment per year. The market interest rate is currently 10%. Suppose you buy the bond today with the view to sell it in a year’s time. What would be your return on the bond if interest rate were to rise to 15% in a year’s time?

(10 marks)

Consider two assets: Unicorn stock and Mermaid stock. Unicorn stock either provides a rate of return of 30% or -20%, with equal probability. Mermaid stock either provides a return of 15% or -5%, with equal probability. You decide to hold a portfolio by investing half of your money in Unicorn stock and the other half in Mermaid stock. If Unicorn stock and Mermaid stock’s returns are independent of each other, what will be the expected return and standard deviation of your portfolio? Assume the risk-free interest rate is 3%. Do you think you have made a rational choice by holding the portfolio?

(10 marks)

Consider the stock of Aviva PLC. The beta of the stock is 1.25. The earnings per share (EPS) in the coming year is 55p. The expected Return on Equity (ROE) is 11%. The expected return on the market portfolio is 9%. The risk-free rate is 5%. The dividend pay-out ratio is 50%. What is the fair price of Aviva stock?

(10 marks)

Consider a US export firm expecting to receive £2 million in 3 months. It is estimated that its profit will fall by $15,000 for every $0.01 depreciation of £. Each £/$ futures contract calls for delivery of £62,500. How could the firm fully hedge against the exchange rate risk? Should it buy or sell the £/$ futures contract? How many contracts should be bought or sold?

(10 marks)

Section B:

During the Covid-19 crisis of 2020, the UK government has increased borrowing dramatically, yet the interest rate on 10-year UK Treasury bond fell from 0.63% in February to 0.21% in July. Explain the rationale behind this phenomenon using the asset market approach.

(30 marks)

“If a country becomes more productive than another country, its currency should always appreciate against the other’s currency”. Is this statement true or false? Explain your reasoning with reference to the theory of exchange rate determination and international monetary system including gold standard, fixed exchange rate regime and floating exchange rate regime.

(30 marks)

Capital Asset Pricing Model (CAPM) is the theory that underpins asset pricing. Discuss the assumptions and implications of CAPM and the applications of CAPM.

(30 marks)

In a September 2009 article in the New York Times Magazine, the Nobel Laureate Paul Krugman wrote that “in short, the belief in efficient financial markets blinded many, if not most, economists to the emergence of the biggest financial bubble in history”. Evaluate the Efficient Market Hypothesis (EMH) using evidence. Explain whether you agree with Krugman’s analysis that the financial crisis of 2007-9 invalidated the EMH.

(30 marks)

END OF QUESTION PAPER