The importance of total risk 43 The global financial market 43 The role of financial management in a. Diverging growth rates raised tensions 127 Lessons from the EMU and the Euro 131 Exchange rate regimes today 131 3.4 Emerging market currency crises 132 .
Foreign Investment Analysis 507
Sales and revenue forecasts 566 Production cost estimates 567 Expected net income 568 Additions to working capital 568 Terminal value 569.
Multinational Working Capital
Fees and Royalties 557 Getting the Basis Right 557 Accounting for Intangible Benefits 558 Alternative Capital Budgeting.
PREFACE
These statements enhance learning by previewing and guiding the reader's understanding of the materials that will be encountered in the chapter. The back of the book contains a glossary that defines the key terms that appear in the text.
ENVIRONMENT OF INTERNATIONAL
FINANCIAL MANAGEMENT
T HE R ISE OF THE M ULTINATIONAL C ORPORATION
For example, 96% of the world's consumers, who hold two-thirds of their purchasing power, are outside the United States. Indeed, speed has become one of the key competitive weapons in the fight for global market share.
T HE I NTERNATIONALIZATION OF B USINESS AND F INANCE
Like critics of NAFTA in 1993, in 1986 many feared a giant sucking noise from the south of another frontier - the Pyrenees. Pennsylvania and Wisconsin — the auto workers, the steel workers, and the machinists — say that if Gore hopes to motivate union activists to campaign for him and union members to vote for him in the primary and general election, he will address workers' concerns about the production and the related commodity.
M ULTINATIONAL F INANCIAL M ANAGEMENT : T HEORY AND P RACTICE
Although the message of CAPM and APT is that only the systematic component of risk will be rewarded with a risk premium, this does not mean that total risk—the combination of systematic and unsystematic risk—is irrelevant to firm value. The value of good financial management has increased in the international arena due to the much greater likelihood of market imperfections and multiple tax rates.
O UTLINE OF THE B OOK
In the United States, the labor and capital that specialized in growing wheat will suffer. Factors of production in the United Kingdom will be idle (because there is no demand for the goods they can produce) while the U.S. To see this, suppose that Mexican tomatoes are sold in the United States at a price of $0.30 per pound.
S ETTING THE E QUILIBRIUM S POT E XCHANGE R ATE
In other words, a higher inflation rate in the United States than in Europe will lead to a depreciation of the dollar relative to the euro or, equivalently, to an appreciation of the euro relative to the dollar. The net result will be depreciation of the euro in the absence of government intervention. Depending on the current value of the euro relative to the dollar, the amount of euro appreciation or depreciation is calculated as the fractional increase or decrease in the dollar value of the euro.
E XPECTATIONS AND THE A SSET M ARKET M ODEL OF E XCHANGE R ATES
British Central Bank Independence and Inflation Expectations, ''FRBSF Economic Letter, Federal Reserve Bank of San Francisco, November 28, 1997. The ultimate commitment to monetary credibility and a currency as good as the dollar is dollarization—the complete replacement of the local currency by the US Ultimately, markets will have to respond to economic realities,” the president said.
The Fundamentals of Central Bank Intervention
Both countries had actively intervened in the foreign exchange market to weaken their currencies against the dollar and thereby improve their exports. 13 Central banks usually hold their foreign currency reserves in the form of foreign currency bonds. The resulting explosion in Britain's money supply revived the inflation that Prime Minister Margaret Thatcher had spent so long beating.
T HE E QUILIBRIUM A PPROACH TO E XCHANGE R ATES
Real disruptions in supply or demand in the commodity market cause changes in relative prices, including the real exchange rate. These changes in the real exchange rate are often partly achieved through changes in the nominal exchange rate. According to the disequilibrium approach, sticky prices cause changes in the nominal exchange rate to translate into changes in the real exchange rate.
Summary and Conclusions
In early August 2002 (the exact date is a state secret), North Korea lowered the official value of the won. Plot the nominal and real value of the dollar over the past 10 years using J.P. How closely related are changes in the real and nominal value of the dollar over this period.
A LTERNATIVE E XCHANGE R ATE S YSTEMS
Instead, those economies sitting in the lower left corner of the triangle must allow their exchange rates to float. Finally, countries such as China, which favor monetary independence and exchange rate stability, must impose capital controls. This regime is designed to allow some changes in the nominal exchange rate to mitigate fundamental shocks.
A B RIEF H ISTORY OF THE I NTERNATIONAL M ONETARY S YSTEM
TheFinancial Times (October 5, 2010) reported that ``Cooperation is a victim of a currency market shootout.''Japan, Switzerland, South Korea and Taiwan have announced major interventions, albeit with mixed success, to boost the appreciation of their currencies. in response to the Fed's decision to engage in its second round of quantitative easing (QE2).5 The Financial Times (November 14, 2010) reported that "the US Federal Reserve's announcement of a second round of quantitative easing ( QE2) with such a chorus of disapproval from the BRIC economies (Brazil, India, Russia and China) and other major exporters in Seoul last week, with warnings of a flood of Western liquidity ending up, quite unwanted, on Asia's shores flush.'' The pump in the US This shift had its desired effect on both the inflation rate and the value of the U.S.
T HE E UROPEAN M ONETARY S YSTEM AND M ONETARY U NION
Thus, for European Monetary Union to be an improvement over the past, the new European Central Bank must be as inflation-averse as Europe's former de facto central bank—the Bundesbank. 10Arturo Bris, Yrj ¨o Koskinen and Mattias Nilsson, "The Real Effects of the Euro: Evidence from Corporate Investments". Another important issue in the formation of a monetary union is that of who gets the benefits of ignorance – the central bank's profit from creating money.
E MERGING M ARKET C URRENCY C RISES
A decade ago, the IMF and academics argued that nations had to choose between floating or stable exchange rate regimes. With a freely floating currency, the exchange rate is determined by the interaction of supply and demand. Adherence to either a truly fixed exchange rate or a floating exchange rate will help avoid currency crises.
S UMMARY AND C ONCLUSIONS
What lessons can economists learn from the exchange rate experiences of the European Monetary System. According to the new margin of 15% on either side of the central course, what are the current approximate values. What is the value to the United States of citizenship associated with these overseas dollars.
The common denominator of these parity conditions is the adjustment of the various rates and prices to inflation. Thus, the rate of domestic inflation and changes in the exchange rate are jointly determined by the rate of domestic money growth relative to the growth of the amount people - at home and abroad - want to hold. For this to happen, the exchange rate must change by (approximately) the difference between domestic and foreign inflation rates.
P URCHASING P OWER P ARITY
Note that increases in the foreign price level and the devaluation of foreign currencies have an offsetting effect on the real exchange rate. Note that the real exchange rate in the base period is just the nominal rate e0.). Solution. To estimate the true value of the yen, we convert the exchange rate from ¥/$ terms to .
T HE F ISHER E FFECT
Point C, for example, is a position of equilibrium because the 2% higher inflation rate in the foreign country (ih−if = −2%) is only offset by the 2% lower HK interest rate (rh−rf = −2). %). Exhibit 4.9 illustrates the relationship between interest rates and inflation rates for 28 countries as of May 2007. Fisher effect: Nominal interest rate versus inflation rate for 28 Developed and Developing Countries as of November 2007.
T HE I NTERNATIONAL F ISHER E FFECT
A more plausible explanation for the short-term failure of IFE depends on the nature of the Fisher effect. According to the Fisher effect, changes in the nominal interest rate differential can be due to changes in either the real interest rate differential or relative inflation expectations. As a result, there is no stable, predictable relationship between changes in the nominal interest rate differential and exchange rate changes.
I NTEREST R ATE P ARITY T HEORY
If the covered interest rate differential between two money markets is not zero, there is an arbitrage incentive to move money from one market to another. This movement of money to take advantage of a covered interest rate differential is known as covered interest arbitrage. Because there is a hedged interest rate differential in favor of London, funds will flow from New York to London.
T HE R ELATIONSHIP B ETWEEN THE F ORWARD R ATE AND THE F UTURE S POT R ATE
The vertical axis measures the expected change in the home currency value of the foreign currency, and the horizontal axis shows the forward discount or premium on the foreign currency. In this case, the forward rate will not solely reflect the expectation of the future spot rate. On the other hand, at any point in time, the forward rate appears to be a biased predictor of the future spot rate.
C URRENCY F ORECASTING
In particular, f1 - the forward rate for a given period from now - is usually sufficient for an unbiased estimate of the spot rate from that date. Solution. According to PPP (Equation 4.3), the expected spot rate for the rand is two years from now. An analysis of forecast errors - the difference between the forecast and the actual exchange rate - will tell us little about the profit potential of econometric forecasts.
S UMMARY AND C ONCLUSIONS
In such situations, futures and capital markets are invariably non-existent or subject to such strict controls that interest and forward differentials are of little practical use in providing market-based forecasts of exchange rate changes. The black market interest rate tends to be a good indicator of where the official interest rate is likely to go if the monetary authorities give in to market pressure. It appears to be most accurate in predicting the official rate one month ahead and is progressively less accurate as a forecast of the future official rate over longer periods.30.
