International Financial

Management

Power Points by
Aditi Rode

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Assessment of Subject
Examination Marks
Case Presentation 20
Mid Term Examination 20
Final Examination 60
Total 100

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Course Outline
TEACHING TOPIC
WEEK
1 -Course Introduction
-The International Monetary System
2 - IRP /PPP (Fisher Effect)
- Determination of Exchange Rate
3 - Forex Market Overview
- Spot Market / Rate Quote
4 Foreign Currency Derivatives
- Forward / Future
- Option

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Course Outline
TEACHING TOPIC
WEEK
5 Foreign Currency Derivatives
- SWAP
- Cross CCY SWAP
6 - Exam overview
- Case Study Presentations
7 Mid-Semester Test

8 International Capital Budgeting

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Course Outline
TEACHING TOPIC
WEEK
9 Foreign Exchange Exposure
- Economic Exposure
- Transaction Exposure
- Translation Exposure
10 - Balance of Payment
- Country Risk
11 - International Portfolio Theory and
Diversification
- Barriers to International Investment
- International Corporate Governance
12 - Economic Union & Trade Agreement
- India Foreign Trade: Promotion & Control

13 - Exam overview and Course Revision

- Practical Applicatin of Course in real world
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Globalization & the
1.1
Multinational Firm
Lecture Objectives:

• Understand why it is important to study

international finance.

• The rise of Multinational Corporation.

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Lecture One Outline
What’s Special about “International”
Finance?
Goals for International Financial
Management
Globalization of the World Economy
Multinational Corporations

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What’s Special about
“International” Finance?
Foreign Exchange Risk
Political Risk
Market Imperfections
Expanded Opportunity Set

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What’s Special about
“International” Finance?
Foreign Exchange Risk
The risk that foreign currency profits may
evaporate in rupee terms due to unanticipated
unfavorable exchange rate movements.
Effect to exchange rate on balance sheet of Indian
IT companies.
Effect of exchange rate on mergers and
acquisitions. Recent example is Tata – Corus deal.

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06.06.2008
23.06.2008
10.07.2008
27.07.2008
13.08.2008
30.08.2008
16.09.2008
03.10.2008
20.10.2008
06.11.2008
23.11.2008
10.12.2008
27.12.2008
What’s Special about

13.01.2009
30.01.2009
16.02.2009
05.03.2009
22.03.2009
“International” Finance?

08.04.2009
25.04.2009
12.05.2009
29.05.2009
Rate

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What’s Special about
“International” Finance?
Political Risk
Sovereign governments have the right to regulate
the movement of goods, capital, and people
across their borders. These laws sometimes
change in unexpected ways.
Oil Crisis in 1973: The 1973 oil crisis started on
October 15, 1973, when the OAPEC proclaimed an
oil embargo. OAPEC declared it would no longer
ship oil to the United States and other countries if
they supported Israel in the conflict

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What’s Special about
“International” Finance?

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What’s Special about
“International” Finance?
Market Imperfections
Legal restrictions on movement of
goods, people, and money
Transactions costs
Shipping costs
Tax arbitrage

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What’s Special about
“International” Finance?
% Deviation from
Country $ per Gal. 2008 Rs/ ltr India, 2008
Saudi Arabia 0.50 4.75 -90.62
Malaysia 0.71 6.86 -86.45
Qatar 1.14 9.82 -80.60
UAE 1.70 15.95 -68.50
USA 2.97 30.76 -39.27
Canada 5.18 52.68 4.00
Czech Republic 5.27 46.34 -8.51
Japan 5.32 46.86 -7.49
Pakistan 5.36 50.70 0.09
South Africa 5.41 52.10 2.86
Nepal 5.73 49.87 -1.55
India 5.77 50.65
SriLanka 6.64 62.68 23.74
New Zealand 7.05 65.82 29.95
Switzerland 7.52 66.09 30.49
Australia 7.64 72.18 42.51
Singapore 8.23 77.70 53.41
Germany 9.68 94.08 85.74
UK 10.41 98.12 93.73
Holland 10.45 101.59 100.57
Italy 10.86 101.95 101.29
Denmark 10.95 102.18 101.74
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What’s Special about
“International” Finance?
Expanded Opportunity Set
It doesn’t make sense to play in only
one corner of the sandbox.
True for corporations as well as
individual investors.

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Globalization of the World Economy
Growth of international trade versus
domestic trade
Reason for the growing importance of
international trade
Liberalization of trade & investment
Shrinkage of “economic space” due to
communication and transportation
technologies
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Globalization of the World Economy
Rewards of international Trade
Comparative Advantage: The relative efficiency of
a country in producing a particular product
e.g. Malaysian Rain Forest & Furniture Industry
Competitive Advantage: Dynamic factors, rather
static production ability, play a vital role
e.g. Wine Industry in France; Entertainment
Industry in US - Hollywood

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Globalization of the World Economy
World Trade

18000
Billions

16000
14000
12000
Number

10000 Export
8000 Import
6000
4000
2000
0

Year
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Globalization of the Indian Economy
Indian Trade

350
Billions

300
Exports
250 Imports
Num bers

200

150

100

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Year
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The Rise of The Multinational
Corporation
The MNC: Definition
A company with production and
distribution facilities in more
than one country.

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The Rise of The Multinational
Corporation
Forces Changing Global Markets
Massive deregulation
Collapse of communism
Privatizations of state-owned industries
Revolution in information technology
Wave of M&A
Emergence of free market policies
Rise of Big Emerging Markets (BEMs)

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The Rise of The Multinational
Corporation
Reasons to Go Global:
More raw materials
New markets
Minimize costs of
production

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The Rise of The Multinational
Corporation
Raw Material Seekers
Exploit markets in other
countries
Historically first to appear
modern-day counterparts
British Petroleum
Exxon
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The Rise of The Multinational
Corporation
Market Seekers
Produce and sell in foreign markets
Heavy foreign direct investors
Representative firms:
IBM
MacDonald’s
Nestle
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The Rise of The Multinational
Corporation
Cost minimizes
Seek lower-cost production abroad
Motive: to remain cost competitive
Intel
Apple
Dell
Nike

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The Rise of The Multinational
Corporation
The Goal for International Finance
manager
Understands political and economic
differences
Searches for most cost-effective suppliers
Evaluates changes on value of the firm

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 International
Monitory System 1.2
Lecture Objectives:

• Evolution of international monitory system.

• Current exchange rate arrangement.
•European monitory system.

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Miss-print on Note?

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Evolution of the
International Monetary System
Bimetallism: Before 1875
Classical Gold Standard: 1875-1914
Interwar Period: 1915-1944
Bretton Woods System: 1945-1972
The Flexible Exchange Rate Regime:
1973-Present

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Bimetallism: Before 1875
A “double standard” in the sense that both
gold and silver were used as money.
Some countries were on the gold standard,
some on the silver standard, some on both.
Both gold and silver were used as
international means of payment and the
exchange rates among currencies were
determined by either their gold or silver
contents.
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Classical Gold Standard:
1875-1914
During this period in most major countries:
Gold alone was assured of unrestricted coinage
There was two-way convertibility between gold
and national currencies at a stable ratio.
Gold could be freely exported or imported.
The exchange rate between two country’s
currencies would be determined by their
relative gold contents.
In this era currency note appeared first time.
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Classical Gold Standard:
1875-1914
For example, if the dollar is pegged to gold at
U.S.$30 = 1 ounce of gold, and the British
pound is pegged to gold at £6 = 1 ounce of
gold, it must be the case that the exchange
rate is determined by the relative gold
contents:
$30 = £6
$5 = £1

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Classical Gold Standard:
1875-1914
Highly stable exchange rates under the
classical gold standard provided an
environment that was conducive to
international trade and investment.
Misalignment of exchange rates and
international imbalances of payment
were automatically corrected by the
price-specie-flow mechanism.
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Classical Gold Standard:
1875-1914
There are shortcomings:
The supply of newly minted gold is so
restricted that the growth of world trade
and investment can be hampered for the
lack of sufficient monetary reserves.
Even if the world returned to a gold
standard, any national government could
abandon the standard.

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Interwar Period: 1915-1944
Exchange rates fluctuated as countries widely
used “predatory” depreciations of their
currencies as a means of gaining advantage
in the world export market.
Attempts were made to restore the gold
standard, but participants lacked the political
will to “follow the rules of the game”.
The result for international trade and
investment was profoundly detrimental.
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Bretton Woods System:
1945-1972
Named for a 1944 meeting of 44 nations at
Bretton Woods, New Hampshire.
The purpose was to design a postwar
international monetary system.
The goal was exchange rate stability without
the gold standard.
The result was the creation of the IMF and
the World Bank.

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Bretton Woods System:
1945-1972
Under the Bretton Woods system, the U.S.
dollar was pegged to gold at $35 per ounce
and other currencies were pegged to the U.S.
dollar.
Each country was responsible for maintaining
its exchange rate within ±1% of the adopted
par value by buying or selling foreign
reserves as necessary.
The Bretton Woods system was a dollar-
based gold exchange standard.
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The Flexible Exchange Rate Regime:
1973-Present.
Flexible exchange rates were declared
acceptable to the IMF members.
Central banks were allowed to intervene in the
exchange rate markets to iron out unwarranted
volatilities.
Gold was abandoned as an international
reserve asset.
Non-oil-exporting countries and less-
developed countries were given greater
access to IMF funds
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Current Exchange Rate
Arrangements
Free Float
The largest number of countries, about 48, allow market
forces to determine their currency’s value.
Managed Float (Dirty Float)
About 25 countries combine government intervention with
market forces to set exchange rates.
Pegged to another currency
Such as the U.S. dollar or euro (through franc or mark).
No national currency
Some countries do not bother printing their own, they just
use the U.S. dollar. For example, Ecuador has recently
dollarized.

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European Monetary System
Eleven European countries maintain exchange
rates among their currencies within narrow
bands, and jointly float against outside
currencies.
Objectives:
To establish a zone of monetary stability in
Europe.
To coordinate exchange rate policies vis-à-vis non-
European currencies.
To pave the way for the European Monetary
Union.

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The Euro
What is the euro?
What value do various national
currencies have in euro?
Euro threat to USD?

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What Is the Euro?
The euro is the single currency of the
European Monetary Union which was
adopted by 11 Member States on 1
January 1999.
These member states are: Belgium,
Germany, Spain, France, Ireland, Italy,
Luxemburg, Finland, Austria, Portugal
and the Netherlands.
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EURO CONVERSION RATES
1 Euro is Equal to:
40.3399 BEF Belgian franc
1.95583 DEM German mark
166.386 ESP Spanish peseta
6.55957 FRF French franc
.787564 IEP Irish punt
1936.27 ITL Italian lira
40.3399 LUF Luxembourg franc
2.20371 NLG Dutch gilder
13.7603 ATS Austrian schilling
200.482 PTE Portuguese escudo
5.94573 FIM Finnish markka

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What is the subdivision of the euro?
During the transitional period up to 31
December 2001, the national currencies
of the member states (Lira, Deutsche
Mark, Peseta, Franc. . . ) were "non-
decimal" subdivisions of the euro.
The euro itself is divided into 100 cents.

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What is the official sign of the euro?
 The sign for the new single currency looks like an
“E” with two clearly marked, horizontal parallel
lines across it.

It was inspired by the Greek letter epsilon, in reference to

the cradle of European civilization and to the first letter of
the word 'Europe'.

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The Third-World Debt Crisis:
1982 - 1989
High interest rate loan to Brazil, Mexico
and Argentina as high economic growth
Failure of common belief “Countries
don’t go bankrupt”
In 1982 Mexico declared it could not
meet schedule payment of 100 billion
One years time 42 debtor countries
were negotiating schedule repayment
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The Third-World Debt Crisis:
1982 - 1989
Cause for Crisis:
Between 1979 – 1980 commodity prices fell
by 27%
USD began a speculative climb that by 1985
had almost doubled its value.
Due to anti-inflationary policies interest rate
went up to 20%
Most of the debt was used for subsidies
rather than productive investment.

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The Third-World Debt Crisis:
1982 - 1989
Handling of Crisis:
US Treasury extended $1.7 billion loan to Mexico to
maintain payments
Between 1982-84 IMF & World Bank made $12 Billion of
stand by credit
In 1985 US treasury proposed $20 billion of additional
private bank lending
In 1988 Citibank started writing-off bad debts of third
world.
Japan offered $65 billion over 5 years to needy nations

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The Third-World Debt Crisis:
1982 - 1989
The third world crisis is unique in that it
represents the first serious international
financial crisis touched off by cross-border
flight of portfolio capital.
Two lessons emerge:
It is essential to have a multinational safety net in
place to safeguard the world financial system from
such crises.
An influx of foreign capital can lead to an
overvaluation in the first place.

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The Asian Currency Crisis
The Asian currency crisis turned out to be far
more serious than the Mexican peso crisis in
terms of the extent of the contagion and the
severity of the resultant economic and social
costs.
Many firms with foreign currency bonds were
forced into bankruptcy.
The region experienced a deep, widespread
recession.
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Currency Crisis Explanations
In theory, a currency’s value mirrors the
fundamental strength of its underlying economy,
relative to other economies. In the long run.
In the short run, currency trader’s expectations
play a much more important role.
In today’s environment, traders and lenders, using
the most modern communications, act by fight-or-
flight instincts. For example, if they expect others
are about to sell Brazilian reals for U.S. dollars,
they want to “get to the exits first”.
Thus, fears of depreciation become self-fulfilling
prophecies.

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End of Lecture - 1
Thank You

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