Hira Javaid

 International Financial Management Table of Contents Part A2 Question No. 12 Question No. 23 Part B9 Question No. 39 Question No. 410 Advantages12 Limitations13 References14 Part A Question No. 1 a) Calculate to 4 decimal places the new exchange rate after a 2% increase in the value of the dollar given a current exchange rate of EURUSD 1.1 As per the given standard notation of exchange rate; 1 Euro = $1.1 so the new exchange rate will be calculated as follows: Let’s calculate 2% increase in the value of the dollar; Hence the new exchange rate will be; €1 = $ 1.0784 b) Given the following exchange rates calculate the GBPEUR rate to 4 decimal places. We are given with the EUROUSD $1.1043 € 1 = $ 1.1043 $1 = € 1/1.1043. $1 = € 0.9056 ...Eq (i) We are given with the GBPUSD $1.2970 £1 = $ 1.2970. $1 = £ 1/1.2970. $1 = £ 0.7710 ...Eq (ii) By combining Equation (i) and Equation (ii), we get GBPEUR rate; £ 0.7710 = € 0.9056 £ 1 = € 0.9056/0.7710 £ 1 = € 1.1745 Or In Simple way, EUR-USD is 1.1043, and GBP-USD is 1.2970. For cross rate calculation, we will multiply EURO-GBP and GBP- USD rate that is 1/1.1043*1.2970 and we will get GBP-EUR rate that is 1.1745. c) Explain the relationship between your answer to part b of this question and triangular arbitrage. Triangle arbitrage gives an opportunity to traders to take advantages disguise among three currencies. A triangle arbitrage strategy has three stages: 1. First Stage First stage involves in exchanging a currency into another currency. Let’s start with $1000, 000 that are converted into €905,600 as depicted in figure. This is simply done by multiplying 1000,000 with USD-Euro rate that is € 0.9056 (1,000,000*0.9056). Furthermore at this stage, the arbitrageur does not get any advantage from the discrepancy hidden in cross-conversion. 2. Second Stage Second stage involves in converting the amount in the second currency. In the given example, Now its turn to sell Euros for GBP. Selling Euro 905,600 are equal to £771,028. 3. Third Stage Third stage belongs to basic transaction that converts the amount in that currency from where it had been converted first. As in the figure shown, it converted into dollars again. Now, the difference from where the first conversion starts and the conversion ends is called arbitrage profit that is $23 (1,000,023-1,000,000). Hence the whole triangle of conversion causes the abridger to earn $23. The arbitrage drives by consecutive exchange of currencies when there exist discrepancies in the in the rate for the currencies. If a currency does not align with the cross-exchange rate of another currency then there is an opportunity for arbitrage. Over-valuation and undervaluation of two markets differences give rise to the arbitrage profit. Practically, the profit is relatively very small as compared to the amount initiated for these transactions. After accounting transactions costs the profit can be further smaller. Question No. 2 a) According to Purchasing Power Parity which currency area should have had the higher rate of inflation in 2017 and by how much? Purchasing Power Parity is theory that compares the purchasing power of various world currencies. Purchasing power parity provides with theoretical exchange rate that permites you to purchase the same quantity of specific goods and services in every country. PPP is a theory that the nominal exchange rate is given by the ratio of two national price levels For inflation in America; CPI (In Europe) = CPI (in America) = = -3.8% Above calculation shows that Europe has more inflation than America. In the given example the EURO has depreciated. And now one will have to pay more dollars to buy any commodity in Europe. While, if anyone buys the same commodity in America it will get the same commodity in cheaper price. The inflation rate in Europe has increased by 4%. b) If inflation in the US were 3% higher than in the euro area, calculate the change in the real value of the dollar. What are the implications of this change? The real value of the dollar changed from $0.9090 (1/1.100) at the start of the year 2017 to $0.9003 (1/1.144 x 1.03). It reflects an increase of 9.6% which means that inflation of 3% was increase the real value of dollar by the stated percentage. The implication of this change is that it would impact the performance of the economy in the manner that purchasing power of the people would decline. The foreign exchange would become difficult in order to attain in exchange of the dollar which would make imports and exports an expensive process for the US. c) What are the implications of a change in the real exchange rate of a currency? Through exchange rate, the critical part for the organisations is assumed that contributes in exporting the merchandise and importing the crude products. The implications of the change in real exchange rate of a currency are as follows: Import of crude materials would result in higher expenses because the real exchange rate change of a currency would increase the values. Trading firms would be able to earn profit because the depreciation would result in making export an inexpensive process The crude materials would become cost effective at any of the rate after the appreciation The growth in the money value would reduce trading firms intensity and would make export more expensive It is noticed that developing economics trust on devaluation in order to assist their economy in the process of enhancing imbalance in terms of balance of payment. Any sort of decline within money value matures balance of payment with the help of minimising the import claims as well as by improving export amount. In addition to this, any sort of research in the context of devaluation implies that trade deficit adjustments can take place along with decline in the income level. This will make transformation scale important part of the business that will involve exchange material along with coarse materials import. There are some aspects that will be focused which are as follows: Increase in cost of import would be faced by the organisations that deal in the unrefined materials Reduction would result in making the exchange affordable due to which benefit would be received by the companies dealing in the field of delivery After increase the price of unprocessed materials which includes oil will be low and cheap Development of Currencies The valuation of sterling went through deterioration in 2009/10. It is noticed that the economy such as that of European Union is going through the retreat process. The payment of interest by the United Kingdom is also weak due to the presence of low cost strategy. Inflation The change in the exchange rate of currency also impacts the rate of inflation in different ways. The change in the price of imported products has impact on the consumer price index. for instance, the increase in the real value of exchange rate would decrease imported goods price which includes raw materials, durable goods, consumer goods, and capital goods. Change in Export Growth The change in the real exchange rate of a currency also brings change in the growth of export. It is noticed that increase in the exchange rate makes it difficult for the companies to sell the products in the international market as the relative price increases. In the case of slow exports, the exporters need to reduce the prices along with cutting back the level of employment and reducing the output. This means that change in the real value of exchange rate of a currency would bring changes in the export of products. Commodity Prices It is noticed that many of the commodities are priced in dollars due to which any sort of change in the exchange rate of a currency would have direct influence on their prices. The change in the sterling dollar exchange rate would influence the commodities price in the UK which includes foodstuffs and oil. It becomes tough for Britain to import such items if the dollar exchange rate is high. d) Explain why you would expect interest rates in the US to be higher than in the euro area. The interest rates in the UK are expected to be higher than in the Euro area because it serves as the largest economy and comprises of liquid capital markets. It is noticed that the Federal Reserve is focusing on making their policies stronger and the European Central Bank is not focusing on any such activity. The FED is continuously making efforts to push up the short term rates and the ECB is buying bonds and possess negative deposit rate due to which there is difference in the interest rates within the US and the euro area. The interest rates are expected to show growth rate by 2.4% and 2.8% in 2017 as well as 2018, while, 1.6% of the growth is expected for the two years in the context of euro zone. This depicts the fact that the interest rate in the US is expected to increase in the coming years due to tough steps and policies being adopted by the Fed. Moreover, America also has high inflation due to bigger budget deficits, high inflation, and fast growth. Moreover, the increase in the interest rate by the US Federal Reserve would provide benefit for the euro area because it would result in boosting the export along with inflation risks. The strong policies and steps that are being taken by the US Federal Reserve would increase interest rates as compared to the euro area because the bank is focusing in providing ease. e) Explain why you would expect there to be no difference in the interest rates of government bonds of any two countries in the euro area and also explain why in practice there are differences It is expected that there would be no difference in the interest rates of government bonds of two countries in the euro area due to different reasons. The strongest reason behind this is that the currency would be same in the two countries due to which the government bonds would be offered in the same rate. Moreover, the mode of exchange rate would also be common in the two countries due to which there would be no different in the interest rates. The basic reason behind this is that similar policies would be made and implemented for the two countries due to which the government bonds would be offered on the similar inter4est rates. The same bank would be dealing with the purchase and sale of the government bonds in the two countries which would result in similar policies making the interest rate same. However, it is noticed that in practice there are slight differences in the interest rates because of the difference in the population, economic position, and other factors. The bank makes changes based on the prevailing situation of the country regardless of the fact that similar currency would be used. Furthermore, some amendments are made based on the situation of the country due to which difference takes place in the interest rates of the government bonds within two counties of the euro area. This depicts the fact that there are differences in the practice in the interest rates because of the changing situation and requirements of the countries in the similar area. Part B Question No. 3 It is found that the country risk investigation normally demonstrates the risk associated to the borrowing or investment in an organisation. Moreover, the further variations in ratio of investing surely impact the profitability of a firm. In addition to this, the change of currency in order to pay foreign dues is also impacted by numerous elements. It is noted that the proportion used to transact the money between two currencies normally depends on the exchange ratio. Furthermore, the exchange proportion illustrates the capacity of the currency of one country that fluctuates time to time[ CITATION DeG12 \l 1033 ]. Moreover, the overall worth of currency might be enhanced or reduced by a particular rate focusing on different elements. In addition, the amount by which the worth of currency is altered or anticipated to be varied depicts the volatility of the exchange proportion. In addition to this, if the currency is not powerful as compare to others countries then it ultimately impacts the value of both import and exports. Furthermore, as the imports of a country increases and export decreases then it ultimately impact the overall economic condition of a country in a negative manner. However, continuous increase in import eventually cut down the value of currency that creates problems for a country to perform their economic operations in a smooth manner. Additionally, with the support of effective planning and its execution the problem of increasing exchange rate would be easy to tackle[ CITATION Fon16 \l 1033 ]. It is analysed that the economic experts of a country set an adequate part of their portfolio in their remote financial securities. Moreover, this decision comprises checks on numerous shared funds; exchange traded financial securities and financial security commitments. Furthermore, in a situation budget authorities frequently disregarded a core start-up stage inside the time of contributions globally. In addition to this, the choice to make contribution internationally must be based on their ideological choices regarding the threats related to economic instability[ CITATION DeG13 \l 1033 ]. Farhi and Werning [CITATION Far14 \n \l 1033 ] argued that the exchange rate unpredictability will levy costs on risk opposed market members who will normally retort by preferring local to international trade at the margin. Moreover, the argument opinions dealers as bearing undiversified exchange threat; if hedging is unbearable or expensive and dealers are risk-adjusted, risk-averse anticipated earnings from trade will reduce when exchange risk rise. Klein [CITATION Kle12 \n \l 1033 ] also identify that the exchange ratio unpredictability reduces global trade, even though author emphasise that the entire size of this impact seems to be relatively small. In addition to this, a currency is not perilous for the reason that the depreciation is to be expected; if devaluation were sure as to scale and timing, there would be no threat at all. However, the anticipated exchange activities might be expected by actors in the economy. For this reason, threat or uncertainty is a concern of uncertainty. Additionally, the traditional examines of currency revelation concentrates on prescribed matters on the financial statements for instance accounts receivables, payables, debit, and foreign currency[ CITATION Aiz12 \l 1033 ]. Question No. 4 The concept of globalisation has increased widely in the recent era because the multinational corporations are focusing on promoting their brand in different countries. The MNCs promote globalisation and it is considered as a good force because it contributes in different manner towards the betterment of the economy. It is noticed that through globalisation MNCs had been able to minimise the concept of discrimination as all the people regardless of their race, ethnicity, gender and others are provided opportunity. Moreover, it also supports the economic position of the country in the manner that the industrial area improved[ CITATION Bay17 \l 1033 ]. The introduction of international brands in the economy improves their national income along with currency value due to which it is considered as good force. Apart from this, globalisation also reduces the problem of unemployment that has negative impact on the country performance. Through globalisation, jobs are created in the country that ultimately supports in reducing the price of the goods and service. It reduces the factor of monopoly in the country due to which the affordability of the people enhances. This indicates that promotion of globalisation by MNCs serves as a good force as it introduces some important factor in the economy in terms of reduced unemployment, increased consumer purchasing power, reduction in monopoly, increased GDP as foreign currency are attracted, and others. The promotion of globalisation by MNCs is considered as good because it encourages foreign investment. Due to this the interconnectedness between markets is high along with increased awareness and communication among the businesses. It also attracts investors because it opens new opportunities and helps in developing the economic position of a country. It serves as a means of growth for the countries because it not only improves their economic position but also develops strong relationship with different parts of the world that is also important for economic development and growth[ CITATION Kum13 \l 1033 ]. It is noticed that there are numerous advantages for MNCs to promote globalisation for the reason that it contribute massively towards the accomplishment of their strategic goals and targets consistently. On the other hand, there are certain limitations of promoting globalisation for MNCs that’s why it is important for them to consider it seriously which surely help them to minimise the possible negative impact to some extent. For this reason, it is important from the prospect of the higher officials of MNCs that they must consider both benefits and limitations of globalisation while promoting it because a slight mistake would lead them towards the failure. Some of the core benefits and limitations of promoting globalisation for MNCs are as follows: Advantages Increase Free Trade Opportunities This is the core advantage that MNCs can easily get by promoting globalisation for the reason that it cut down the all-possible hurdles that impact the operations negatively. Furthermore, the globalisation helps the MNCs to sell their products in different parts of the world without any apprehension. Similarly, in the Europe countries under EU agreed to give access to different firms to execute their business operations easily[ CITATION Mar12 \l 1033 ]. Increase Job Opportunities Due to the globalisation it increases the job opportunities for and reduces the level of unemployment which helps the government to improve the living standard of their citizens viably. Therefore, it is important from the prospect of the MNCs officials that they should promote globalisation as much as they can because this is the most appropriate way to expand their business operations globally. Improve the Quality of Commodities It is evaluated that the globalisation ultimately raises the level of competition that push MNCs to focus on the quality of their products because people have different options or substitute to switch on. For this reason, the policy makers at different MNCs usually consider this factor seriously and formula effective policies and strategies to meet the expectations of their customers by delivering high quality products at affordable prices[ CITATION Bay17 \l 1033 ]. Fall in Prices of the Products and Services It is quite common that the increase in the competition ultimately reduce the prices of the products and services because as supply increases prices of a product decline gradually. For that reason, it is important for the strategic success of MNCs that they must consider this element at the time of formulating their pricing plans because a little mistake would cost them some serious damage in terms of low sales and profit. On the other hand, it is quite encouraging from the consumer perspective that they can get the high quality products at low prices[ CITATION Mar12 \l 1033 ]. Limitations Unfair Working Conditions This is one of the most imperative limitations of promoting globalisation for MNCs that the problem of unfair working conditions increases massively that impact the health condition of workers in a pessimistic way. Moreover, as competition level increases MNCs put pressure on their employees to work extra hours in order to meet the demand and strict deadlines that are hard to attain for them[ CITATION Bay17 \l 1033 ]. Small Firms unable to Stay Longer It is examined that the promotion of globalisation for MNCs creates more opportunities for them and create problems for small scale firms to remain stable in this competitive era. Furthermore, as the involvement of MNCs increases it impacts the local industries to execute their business operations smoothly. Therefore, this is another limitation of promoting globalisation for MNCs. References Aizenman, J. & Sun, Y., 2012. The financial crisis and sizable international reserves depletion: From ‘fear of floating’to the ‘fear of losing international reserves’? International Review of Economics & Finance, 24, pp.250-69. Baylis, J., Smith, S. & Owens, P., 2017. The globalization of world politics: an introduction to international relations. London: Oxford University Press. De Grauwe, P. & Ji, Y., 2012. Mispricing of sovereign risk and macroeconomic stability in the Eurozone. JCMS: Journal of Common Market Studies, 50(6), pp.866-80. De Grauwe, P. & Ji, Y., 2013. Self-fulfilling crises in the Eurozone: An empirical test. Journal of International Money and Finance, 34, pp.15-36. Farhi, E. & Werning, I., 2014. Dilemma not trilemma? Capital controls and exchange rates with volatile capital flows. IMF Economic Review, 62(4), pp.569-605. Fontana, A. & Scheicher, M., 2016. An analysis of euro area sovereign CDS and their relation with government bonds. Journal of Banking & Finance, 62, pp.126-40. Klein, M.W.a.S.J.C., 2012. Exchange rate regimes in the modern era. London: MIT Press. Kumar, V., Sharma, A., Shah, R. & Rajan, B., 2013. Establishing profitable customer loyalty for multinational companies in the emerging economies: a conceptual framework. Journal of International Marketing, 21(1), pp.57-80. Marsella, A., 2012. Psychology and globalization: Understanding a complex relationship. Journal of Social Issues, 68(3), pp.454-72.