International Finance 535 Week 4 Homework

Chapter 6

11. Direct Intervention in Europe. If most countries in Europe experience a recession, how might the European Central Bank use direct intervention to stimulate economic growth?


19. Pegged Currencies Why do you think a country suddenly decides to peg its currency to the dollar or some other currency? When a currency is unable to maintain the peg, what do you think are the typical forces that break the peg?





Chapter 7

5. Covered Interest Arbitrage Explain the concept of covered interest arbitrage and the scenario necessary for it to be plausible.


27. Interpreting Changes in the Forward Premium Assume that interest rate parity holds. At the beginning of the month, the spot rate of the Canadian dollar is $.70, while the 1-year forward rate is $.68. Assume that U.S. interest rates increase steadily over the month. At the end of the month, the 1-year forward rate is higher than it was at the beginning of the month. Yet, the 1-year forward discount is larger (the 1-year premium is more negative) at the end of the month than it was at the beginning of the month. Explain how the relationship between the U.S. interest rate and the Canadian interest rate changed from the beginning of the month until the end of the month.





Chapter 10

11. Transaction Exposure Aggie Co. produces chemicals. It is a major exporter to Europe, where its main competition is from other U.S. exporters. All of these companies invoice the products in U.S. dollars. Is Aggie's transaction exposure likely to be significantly affected if the euro strengthens or weakens? Explain. If the euro weakens for several years, can you think of any change that might occur in the global chemicals market?


21. Transaction Exposure Vegas Corp. is a U.S. firm that exports most of its products to Canada. It historically invoiced its products in Canadian dollars to accommodate the importers. However, it was adversely affected when the Canadian dollar weakened against the U.S. dollar. Since Vegas did not hedge, its Canadian dollar receivables were converted into a relatively small amount of U.S. dollars. After a few more years of continual concern about possible exchange rate movements, Vegas called its customers and requested that they pay for future orders with U.S. dollars instead of Canadian dollars. At this time, the Canadian dollar was valued at $.81. The customers decided to oblige since the number of Canadian dollars to be converted into U.S. dollars when importing the goods from Vegas was still slightly smaller than the number of Canadian dollars that would be needed to buy the product from a Canadian manufacturer. Based on this situation, has transaction exposure changed for Vegas Corp.? Has economic exposure changed? Explain.


Chapter 11

3. Money Market Hedge on Payables Assume that Hampshire Co. has net payables of 200,000 Mexican pesos in 180 days. The Mexican interest rate is 7 percent over 180 days, and the spot rate of the Mexican peso is $.10. Suggest how the U.S. firm could implement a money market hedge. Be precise.


22. Real Cost Of Hedging Would Montana Co.'s real cost of hedging Japanese yen receivables have been positive, negative, or about zero on average over a period in which the dollar weakened consistently? Explain.






Chapter 12

2. Reducing Economic Exposure UVA Co. is a U.S.-based MNC that obtains 40 percent of its foreign supplies from Thailand. It also borrows Thailand's currency (the baht) from Thai banks and converts the baht to dollars to support U.S. operations. It currently receives about 10 percent of its revenue from Thai customers. Its sales to Thai customers are denominated in baht. Explain how UVA Co. can reduce its economic exposure to exchange rate fluctuations.


11. Managing Economic Exposure St. Paul Co. does business in the United States and New Zealand. In attempting to assess its economic exposure, it compiled the following information.

a. St. Paul's U.S. sales are somewhat affected by the value of the New Zealand dollar (NZ$) because it faces competition from New Zealand exporters. It forecasts the U.S. sales based on the following three exchange rate scenarios:



NZ$ = $.48


NZ$ = .50


NZ$ = .54


b. Its New Zealand dollar revenues on sales to New Zealand invoiced in New Zealand dollars are expected to be NZ$600 million.

c. Its anticipated cost of materials is estimated at $200 million from the purchase of U.S. materials and NZ$100 million from the purchase of New Zealand materials.

d. Fixed operating expenses are estimated at $30 million.

e. Variable operating expenses are estimated at 20 percent of total sales (after including New Zealand sales, translated to a dollar amount).

f. Interest expense is estimated at $20 million on existing U.S. loans, and the company has no existing New Zealand loans.

Forecast net cash flows for St. Paul Co. under each of the three exchange rate scenarios. Explain how St. Paul's net cash flows are affected by possible exchange rate movements. Explain how it can restructure its operations to reduce the sensitivity of its net cash flows to exchange rate movements without reducing its volume of business in New Zealand.


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