Posted: October 17th, 2013
Cross rate is used during exchanging currencies in two countries, which do not have official currency. All the currencies not including US Dollars are called cross rates. For example, Swiss Franc and the British pound have a cross rate. Calculating the cross rate requires originating currency, amount, target currency and market maker (Ross & Ross, 2008). The Swiss Franc is selling for $.7681 and the British is selling at $ 1.6581. The dollar has been used as a cross rate currency for the two currencies. We need to calculate Denom by dividing target currency by originating currency.
Therefore, it will be dividing British pound currency by Swiss Franc currency.
$ 1.6581/ $.7681= 2.158703
The result is divided by the amount, which an individual is expected to exchange (Shim & Siegel, 2000).
If the exchange rate of Japanese Yen and Euro was stated in a US newspaper, it will be cross rate. This is because both currencies are not standard currencies in America. If US dollar exchange rate is quoted, it is not a cross rate since US dollar is standard currency. The status of currencies in cross rate differs. For instance, a bank in Columbia can rate Canadian dollar with Euro. The British pound is an exception and it is used as base currency. Cross rates give big interests to forex. This is because it would be beneficial for a trader to buy currency of a country doing well economically. It is significant to understand the problems associated with the simplified calculations of cross rate. Traders may experience losses as they make transactions of currency exchange. It is particularly important for liquid markets to understand this problem. Ross & Ross (2008) states the calculations are only applicable theoretically. In real application, traders tend to use different calculations in accordance to their convenience.
Ross, S. A., & Ross, S. A. (2008). Modern financial management. Boston: McGraw-Hill/Irwin
Shim, J. K., & Siegel, J. G. (2000). Financial management. Hauppauge, N.Y: Barron’s.
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