Slide 7.1 Chapter International financial markets and institutions Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.2 International financial markets and institutions • • • • • • • • Objectives Introduction Foreign exchange markets Determination of the exchange rate Protecting against exchange risk Foreign money and capital markets Regional money and capital markets The IMF system Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.3 Objectives • Review the basic characteristics of all the financial markets that may be available to a firm in international business • Examine the foreign exchange market, its operation, and the main participants • Explain the fundamental economic factors that determine exchange rates • Show how firms can operate successfully in more than one currency without facing unacceptable levels of exchange risk Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.4 Objectives (Continued) • Give insights into domestic money and capital markets that exist around the world • Describe the functioning of the euromarkets, both short term and long term • Explain how the international monetary system functions and how it relates to both private-sector firms and governments • Look at a country’s balance of payments and show what lessons can be drawn from it • Show how firms can take advantage of the opportunities available in all of these markets Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.5 Introduction • International financial markets are relevant to companies, whether or not they become directly involved in international business through exports, direct investment, and the like • Purchases of imported products or services, borrowing and investment in other countries or currency, all involve exchange risk • Exchange risk: The risk of financial loss or gain due to an unexpected change in a currency’s value Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.6 Introduction (Continued) • Foreign exchange: any financial instrument that carries out payment from one currency to another • Exchange rate: the amount of one currency that can be obtained for another currency – Spot rate is the rate quoted for current foreign currency transactions – Forward rate is the rate quoted for the delivery of foreign currency at a predetermined future date such as 90 days from now – Cross rate is an exchange rate that is computed from two other rates Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.7 Introduction (Continued) • Foreign exchange: any financial instrument that carries out payment from one currency to another • Exchange rate: the amount of one currency that can be obtained for another currency – Spot rate is the rate quoted for current foreign currency transactions Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.8 Foreign exchange markets Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.9 The foreign exchange markets • The foreign exchange market is a mechanism, through which financial instruments (cash, cheques or drafts, wire transfers telephone transfers and contracts to sell or buy currency in the future) that are denominated in different currencies can be transacted Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.10 The foreign exchange markets (Continued) • There are four major ways of conducting foreign exchange in the US: – Between banks: the interbank market for foreign exchange involves transactions between banks – Brokers: the brokers’ market consists of a small group of foreign exchange brokerage companies that make markets in foreign currencies These brokers not take currency positions They simply match buyers and sellers and charge a commission for their services Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.18 Combined equilibrium • The future exchange rate, XRt+1, will be partially determined by both of the above factors (PPP and IFE) in the absence of government intervention Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.19 Figure 7.3 Exchange rate determination Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.20 Discussion U.S Senate Passes Chinese Currency Bill on Oct 11, 2011 Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.21 End of of Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.22 Protecting against exchange risk Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.23 Protecting against exchange risk • Alternatives to minimize exchange risk – Risk avoidance: avoid foreign currency transactions – Risk adaptation: this strategy includes all methods of “hedging” against exchange rate changes – Risk transfer: the use of an insurance contract or guarantee that transfers the exchange risk to the insurer or guarantor – Diversification: spreading assets and liabilities across several currencies Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.24 Foreign money and capital markets Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.25 Foreign money and capital markets • The MNE will generally utilize local markets to perform local financial transactions and often to hedge its local asset exposure through local borrowing (or its local liability exposure through local deposits or investments) • The MNE can also utilize local financial markets to obtain additional funding (or place additional funds) for its non-local activities Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.26 China Goes Global Survey by Asia Pacific Foundation of Canada Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.27 Regional money and capital markets Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.28 Regional money and capital markets • The eurocurrency market – A eurodollar is a dollar-denominated bank deposit located outside the United States – Eurobonds are financial instruments that are typically underwritten by a syndicate of banks from different countries and are sold in countries other than the ones in which their currency is denominated – Euroequities are shares of publicly traded stocks traded on an exchange outside of the issuing firm’s home country Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.29 The IMF system Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.30 The international monetary system • International monetary system: The arrangement between national governments/central banks that oversee the operation of official foreign exchange dealings between countries • International Monetary Fund (IMF): The international organization founded at Bretton Woods, NH, in 1944 that offers balance of payments support to countries in crisis along with financial advising to central banks Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.31 The international monetary fund (IMF) • The goals of the IMF include: – to facilitate the balanced growth of international trade; – to promote exchange stability and orderly exchange arrangements and to discourage competitive currency depreciation; – to seek the elimination of exchange restrictions that hinder the growth of world trade; – to make financial resources available to members, on a temporary basis and with adequate safeguards, to permit them to correct payment imbalances without resorting to measures destructive to national and international prosperity Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.32 IMF Employees talk about IMF Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 ...Slide 7.2 International financial markets and institutions • • • • • • • • Objectives Introduction Foreign exchange markets Determination of the exchange rate... Protecting against exchange risk Foreign money and capital markets Regional money and capital markets The IMF system Alan M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson... M Rugman and Simon Collinson, International Business, 5th Edition, © Pearson Education Limited 2009 Slide 7.27 Regional money and capital markets Alan M Rugman and Simon Collinson, International