International Business Environments Operations 15 e Global Edition
International Business Environments & Operations 15 e, Global Edition Daniels ● Radebaugh ● Sullivan
23 January 2018: Our company is ordering Euro 1 million worth of manufacturing raw materials from a distributor in The Netherlands, to be delivered in January 2019, payable now or on the delivery date. (Our vendor’s analysis probably set the price for acceptable profit regardless of when we pay. p Check Spot Rate: Jan 23, 2018 16: 42 UTC p 9 -2
Spot and Futures Rates Jan 23, 2018 16: 42 UTC Russian Ruble 1. 00 RUB Rubles to Euro 0. 014421 Jan 2019 Futures Exchange Russian Rubles to Euro 1. 00 RUB Jan 2019 0. 017000 9 -3
Alternatives p p p Payment now: R 144 210 000, 00 Payment in a year using futures contract: R 170 000, 00. Paying now is R 25 790 000, 00 less than paying a year from now. 9 -4
Alternatives p p Sberbank will pay 10, 52% on a 1 year deposit. 10, 52% x R 144 210 000, 00 = R 15 170 892, 00 9 -5
Alternatives p p p By investing R 144 210 000, 00 in new and upgraded production facilities and marketing, our company can increase profits from sales revenue. If sales revenue is R 100 000, 00 per annum, and our profit is 15% per annum, what percent increase in sales would we need to realize from this investment to equal the return from the savings deposit at Sberbank? 9 -6
Alternatives p p Our annual profits are 15, 000. 00 �. An investment of R 144 201 000, 00 R would need to double annual profits to match the interest income from the savings deposit. 9 -7
Alternatives p Your solution and justify: 9 -8
Chapter 9 Factors that Influence Exchange Rates
Definition: Central Bank p p Central Bank: a Government-established monopoly institution given privileged control over the production and distribution of money and credit. In modern economies, the central bank is usually responsible for the formulation of monetary policy and the regulation of member banks. Read more: Central Bank https: //www. investopedia. com/terms/c/centralb ank. asp#ixzz 550 V 5 Tne. M 9 -10
Definition: Monetary Policy p Monetary policy consists of the actions of a central bank, currency board or other regulatory committee that determine the size and rate of growth of the money supply in a nation-state, which in turn affects interest rates. 9 -11
How does your local bank obtain foreign currency? The interbank market is the top-level foreign exchange market where banks exchange different currencies. p The banks can either deal with one another directly, or through electronic brokering platforms. p The Electronic Broking Services (EBS) in the UK, and Thomson Reuters EIKON are the two competitors in the electronic brokering platform business and together connect over 1000 banks. p 9 -12
How does your local bank obtain foreign currency? p As the currencies of most developed countries have floating exchange rates, these currencies do not have fixed values but, rather values that fluctuate relative to other currencies— The brokering systems provide spot and futures information on exchange rates in near-real-time. 9 -13
How does your local bank obtain foreign currency? The interbank market is an important segment of the foreign exchange market. p It is a wholesale market through which most currency transactions are channeled. p It is mainly used for trading among bankers. p 9 -14
How does your local bank obtain foreign currency? The three main constituents of the interbank market are: p the spot market p the forward market p SWIFT (Society for World-Wide Interbank Financial Telecommunications) 9 -15
How does your local bank obtain foreign currency? p p p The interbank market is unregulated and decentralized. There is no specific location or exchange where these currency transactions take place. However, foreign currency options are regulated in a number of countries and trade on a number of different derivatives exchanges. The Central Banks in many countries publish closing spot prices on a daily basis. 9 -16
RISK: Russian hackers steal $10 million from ATMs through Interbank networks p p p 11 December 2017 A newly-discovered hacking group had managed to steal potentially millions of dollars from US, UK, and Russian banks in the past two years, researchers claim. The group, dubbed Money. Taker, has successfully managed to attack over 20 financial institutions, banks, software vendors, and law firms worldwide through the Interbank network systems. 9 -17
Chapter Learning Objectives p p p Describe the International Monetary Fund and its role in the determination of exchange rates Discuss the major exchange-rate arrangements that countries use Explain the European Monetary System and how the euro became the currency of the euro zone Identify the major determinants of exchange rates Show managers try to forecast exchange -rate movements Explain how exchange-rate movements influence business decisions 9 -18
Definition: Monetary Policy Money supply is maintained through actions such as modifying the interest rate, buying or selling government bonds, and changing the amount of money banks are required to keep as bank reserves. p Usually a central bank is in charge of monetary policy p Read more: Monetary Policy https: //www. investopedia. com/terms/m/ monetarypolicy. asp#ixzz 550 Vulp 7 b p 9 -19
Definitions: Reserve Currency p p Reserve currency: A reserve currency is currency held by central banks and other major financial institutions as a means to pay off international debt obligations, or to influence their domestic exchange rate. A large percentage of commodities, such as gold and oil, are priced in the reserve currency, causing other countries to hold this currency to pay for these goods. 9 -20
Definitions: Reserve Currency p p Holding currency reserves minimizes exchange rate risk, as the purchasing nation will not have to exchange their currency for the current reserve currency in order to make a purchase. Since 1944, the U. S. dollar has been the primary reserve currency used by other countries. Read more: Reserve Currency https: //www. investopedia. com/terms/r/reservecurrency. as p#ixzz 550 Ts. ZQC 8 9 -21
Definitions Financial Instrument: definition from Investopedia. com: https: //www. investopedia. com/terms/p/pr imary-instrument. asp p 9 -22
Introduction Learning Objective: Describe the International Monetary Fund and its role in the determination of exchange rates 9 -23
The International Monetary Fund https: //www. youtube. com/watch? v=WG 7 2 yk 60 tb. A 1: 23 minutes p The goals of the International Monetary Fund (IMF) are to n ensure stability in the international monetary system n promote international monetary cooperation and exchange-rate stability n facilitate the balanced growth of international trade n provide resources to help members in balanceof-payments difficulties or to assist with 9 -24 poverty reduction
Bretton Woods Agreement: Some History What is the 'Bretton Woods Agreement' p The Bretton Woods Agreement is the landmark system for monetary and exchange rate management established in 1944. p It was developed at the United Nations Monetary and Financial Conference held in Bretton Woods, New Hampshire, USA, from July 1 to July 22, 1944 9 -25
The Bretton Woods Agreement p p Delegates from 44 countries met to create a new international monetary system. The main goals of the meeting of the 730 delegates were to ensure a foreign exchange rate system, prevent competitive devaluations and promote economic growth. 9 -26
The Bretton Woods Agreement Preparation for this event took two years. p The primary designers of the system were John Maynard Keynes, of the United Kingdom, and Harry Dexter White, the chief international economist of the U. S. Treasury Department. p 9 -27
The Bretton Woods Agreement Keynes’ plan was to establish a global central bank called the Clearing Union. p White’s plan limited the powers and resources of each country. p In the end, the adopted plan took ideals from both, leaning more toward White’s plan. p Creation of Two New Institutions p 9 -28
The Bretton Woods Agreement Creation of the International Monetary Fund. p The IMF was created to monitor exchange rates and lend reserve currencies to nations. p It was formally introduced in December 1945 when 29 members signed the Articles of Agreement. 9 -29
The Bretton Woods Agreement also created the World Bank Group, p Set up to provide financial assistance for countries during the reconstruction post World War phase. 9 -30
The Bretton Woods Agreement End of Bretton Woods Agreement p The Bretton Woods Agreement was dissolved between 1968 and 1973. p An overvaluation of the U. S. dollar led to concerns over the exchange rates and tie to the price of gold. p President Richard Nixon called for a temporary suspension of the dollar’s convertibility to gold. 9 -31
The Bretton Woods Agreement End of Bretton Woods Agreement p Countries were then free to choose any exchange agreement, except the price of gold. p In 1973, foreign governments let currencies float, which put an end to the Bretton Woods system. p Read more: Bretton Woods Agreement https: //www. investopedia. com/terms/b/bretton woodsagreement. asp#ixzz 550 QXPV 00 9 -32
The IMF Today p The n Quota System every member contributes a quota p Assistance n the IMF lends money to ease balance -of-payments difficulties p Special n Programs drawing rights (SDRs) the IMF’s unit of account 9 -33
The Latest Global Financial Crisis and the IMF The global crisis in 2008 -2009 raised concerns over global liquidity n prompted the G 20 to inject huge amounts of cash into the IMF p Greece’s 2009 -2011 financial crisis required assistance from the IMF and the EU n the IMF required Greece to adopt very unpopular austerity measures p . 9 -34
Evolution to Floating Exchange Rates p The Smithsonian Agreement: Meeting in December 1971 at the Smithsonian Institution in Washington D. C. , the Group of Ten signed the Smithsonian Agreement n n n 8% devaluation of the dollar revaluation of other currencies widening of exchange rate flexibility . 9 -35
Evolution to Floating Exchange Rates The Jamaica Accords p provided greater exchange rate flexibility p eliminated the use of par values p ratified the end of the Bretton Woods monetary system. p changed the "articles of agreement" that the International Monetary Fund (IMF) was founded upon. p The agreement was concluded after meetings 7– 8 January 1976 at Kingston, Jamaica by a committee of the board of governors of. the IMF. 9 -36
Evolution to Floating Exchange Rates The Jamaica Accords p allowed the price of gold to float with respect to the U. S. dollar and other currencies, albeit within a set of agreed constraints. p The accords also made provisions for financial assistance to developing countries representing the Group of 77 member countries to compensate for lost earnings from the export of primary commodities. p An amendment was made in 1978 to allow for the creation of Special Drawing Rights, described as "a rather cheap line of credit" for developing countries. . 9 -37
Exchange Rate Arrangements Under the Jamaica Agreement countries selected and maintained their own exchange rate arrangements p The IMF monitors the exchange rate policies of countries to see if they are acting openly and responsibly p . 9 -38
Three Choices: Hard Peg, Soft Peg, or Floating Learning Objective: Discuss the major exchange-rate arrangements that countries use . 9 -39
Three Choices: Hard Peg, Soft Peg, or Floating p p The IMF classifies currencies into three categories Hard peg n n n p Soft peg n n p value is locked into something and does not change dollarization currency boards more flexible than hard peg Chinese Yuan is an example Floating n n floating or free floating change according to market forces. 9 -40
The Euro Learning Objective: Explain the European Monetary System and how the euro became the currency of the euro zone 9 -41
The Euro p The European Monetary System (EMS) n p European Monetary Union (EMU) n p established to create exchange rate stability within the European Community outlined the criteria for euro applicants p the U. K. , Sweden, and Denmark opted not to adopt the euro The European Central Bank (ECB) n sets monetary policy for the adopters of the euro. 9 -42
Determining Exchange Rates Learning Objective: Identify the major determinants of exchange rates . 9 -43
Determining Exchange Rates p Currency in a floating rate world n demand for a country’s currency is a function of the demand for that country’s goods and services and financial assets 9 -44
Equilibrium Exchange Rate The exchange rate at which the supply for a currency meets the demand of the same currency. p As foreign exchange rates are affected by a number of factors, the equilibrium exchange rate in turn, are also influenced by its supply and demand. p Hence equilibrium is achieved when a currency's demand is equal to its supply. p . 9 -45
Determining Exchange Rates The Equilibrium Exchange Rate and How it Moves . 9 -46
Determining Exchange Rates p Currency in a fixed rate or managed floating rate world n n Role of central banks p reserve assets p intervening in the market p attitudes toward intervention The Bank for International Settlements (BIS) p the central banks’ bank p coordinates central bank intervention. 9 -47
Black Markets p p A black market closely approximates a price based on supply and demand for a currency instead of a government controlled price Economic activity that takes place outside government -sanctioned channels. Black market transactions usually occur “under the table” to let participants avoid government price controls or taxes. The black market is also the venue where highly controlled substances or products such as drugs and firearms are illegally traded. Black markets can take a toll on an economy, since they are shadow markets where economic activity is not recorded and taxes are not paid. . 9 -48
Black Markets p p A black market closely approximates a price based on supply and demand for a currency instead of a government controlled price Economic activity that takes place outside government -sanctioned channels. Black market transactions usually occur “under the table” to let participants avoid government price controls or taxes. The black market is also the venue where highly controlled substances or products such as drugs and firearms are illegally traded. Black markets can take a toll on an economy, since they are shadow markets where economic activity is not recorded and taxes are not paid. . 9 -49
Black Markets p Read more: Black Market https: //www. investopedia. com/terms/b/blackmarket. as p#ixzz 555 j. Dw. Pgx . 9 -50
Foreign Exchange Convertibility and Controls p Hard currencies: Hard currency is a currency widely accepted around the world as a form of payment for goods and services. A hard currency is expected to remain relatively stable through a short period of time, and to be highly liquid in the forex, or foreign exchange (FX), market. A hard currency generally comes from a nation with a strong economic and political situation. Read more: Hard Currency https: //www. investopedia. com/terms/h/hardcu rrency. asp#ixzz 555 jqosma. 9 -51
Foreign Exchange Convertibility and Controls p Hard currencies n p Soft currencies n p U. S. dollar, euro, British pound, Japanese yen developing countries Countries can control convertibility through n n licenses multiple exchange rate systems advance import deposits quantity controls. 9 -52
Exchange Rates and Purchasing Power Parity p Purchasing power parity (PPP) n a change in relative inflation between two countries must cause a change in exchange rates to keep the prices of goods in the countries fairly similar The Big Mac Index http: //www. economist. com/content/bigmac-index p . 9 -53
Exchange Rates and Interest Rates p The Fisher Effect n p The International Fisher Effect (IFE) n p links inflation and interest rates links interest rates and exchange rates Other Factors in Exchange Rate Determination n n confidence information . 9 -54
Fisher Effect p p The Fisher effect is an economic theory proposed by economist Irving Fisher that describes the relationship between inflation and both real and nominal interest rates. The Fisher effect states that the real interest rate equals to the nominal interest rate minus the expected inflation rate. Therefore, real interest rates fall as inflation increases, unless nominal rates increase at the same rate as inflation. Read more: Fisher Effect https: //www. investopedia. com/terms/f/fishereffect. asp#ixzz 55 5 kzgn. NL 9 -55
Forecasting Exchange Rate Movements Learning Objective: Show managers try to forecast exchange-rate movements . 9 -56
Fundamental and Technical Forecasting p Forecasting exchange rates n n Fundamental forecasting p uses trends in economic variables to predict future rates Technical forecasting p uses past trends in exchange rates to spot future trends Biases can skew forecasts Timing, direction, and magnitude of exchange rate movements are important to consider. 9 -57
Fundamental Factors to Monitor p Monitor n The institutional setting n Fundamental analyses n Confidence factors n Circumstances n Technical analyses . 9 -58
Business Implications of Exchange Rate Changes Learning Objective: Explain how exchange-rate movements influence business decisions . 9 -59
Business Implications of Exchange Rate Changes p Marketing Decisions n p Production Decisions n p when the value of a country’s currency rises, exporting becomes more difficult as the product becomes more expensive in foreign markets might locate production in a weak currency country because the initial investment is cheap and it will make a good base for exports Financial Decisions n currency rates influence sourcing, cross-border remittance of funds, and the reporting of financial results. 9 -60
The Future: The Dollar, The Euro, The Yen, The Yuan p Europe n p Asia n p the euro should take market share away from the dollar as the prime reserve asset assuming the problems in Greece and other countries are controlled China is moving forward to establish the yuan as a major world currency Latin America n emerging market currencies should strengthen as commodity prices recover. 9 -61
The Economist Intelligence Unit Global Forecast - Feb. 2018: 20 minutes p http: //mktoab 220141. com/o 03 B 000 NE 007 c. R 0 c 0 QIade 0 9 -62
All rights reserved. No part of this publication may be reproduced, stored in a retrieval system, or transmitted, in any form or by any means, electronic, mechanical, photocopying, recording, or otherwise, without the prior written permission of the publisher. Printed in the United States of America. . 9 -63
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