International Business Chapter 10 Homework Brazilian A relatively strong U.S. economy that has outperformed most international economies, including developed economies in

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Did You Know Video Clip

The video clip asks: “Did you know that the US dollar has been one of the strongest currencies in

the world since the Great Recession of 2008–2009?”

1. What does a “strong” U.S. dollar mean, in simple terms?

2. What is a main reason for the strong U.S. dollar?

3. Why might this be good for U.S. importers? Why might it be less good for U.S. exporters?

How will your “strong dollars” perform if you travel to Europe this summer?

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APPROACHES TO FORECASTING

D) Two approaches to forecasting exchange rates are fundamental analysis and technical

analysis.

Summary

This activity focuses on fluctuations in currency values and specifically on predicting exchange

rate movements. Movements in exchange rates can affect the short- and long-term profitability of

a firm, its opportunities to export, individual transactions, and the overall competitiveness of the

firm.

This activity focuses on understanding exchange rate movements and the implications of those

movements for organizations. Exchange rate forecasting services can help firms predict

exchange rate movements, although none are accurate in all situations.

Activity

Students are asked to read a short case on exchange rates and then respond to a series of

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Class Discussion

Understanding exchange rate movements is essential for managers conducting business across

borders. Managers can use various forecasting services to better understand where exchange

C) Free convertibility is the norm in the world today, although many countries impose some

restrictions on the amount of money that can be converted. The main reason to limit

convertibility is to preserve foreign exchange reserves and prevent capital flight (when residents

and nonresidents rush to convert their holdings of domestic currency into a foreign currency).

D) Countertrade refers to a range of barter-like agreements by which goods and services can be

Transaction Exposure

B) Transaction exposure is the extent to which the income from individual transactions is

affected by fluctuations in foreign exchange values.

Translation Exposure

C) Translation exposure is the impact of currency exchange rate changes on the reported

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Economic Exposure

D) Economic exposure is the extent to which a firm’s future international earning power is

affected by changes in exchange rates. Economic exposure is concerned with the long-term

2) firms should distinguish between transaction and translation exposure on the one hand, and

economic exposure on the other hand; 3) the need to forecast future exchange rates cannot be

overstated; 4) firms need to establish good reporting systems so the central finance function can

regularly monitor the firm’s exposure position; and 5) the firm should produce monthly foreign

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1. The interest rate on South Korean government securities with one-year maturity is 4 percent,

and the expected inflation rate for the coming year is 2 percent. The interest rate on U.S.

government securities with one-year maturity is 7 percent and the expected rate of inflation is 5

percent. The current spot exchange rate for Korea won is $1 = W1,200. Forecast the spot

exchange rate one year from today. Explain the logic of your answer.

2. Two countries, Great Britain and the United States, produce just one good: beef. Suppose the

price of beef in the U.S. is $2.80 per pound, and in Britain it is £3.70 per pound.

a. According to PPP theory, what should the $/£ spot exchange rate be?

b. Suppose the price of beef is expected to rise to $3.10 in the United States, and to £4.65 in

Britain. What should the one-year forward dollar/pound exchange rate be?

c. Given your answers to parts a and b, and given that the current interest rate in the United

States is 10 percent, what would you expect the current interest rate to be in Britain?

or 0.67$/£.

c. Since the dollar is appreciating relative to the pound, and given the relationship of

3. Reread the Management Focus “Embraer and the Gyrations of the Brazilian Real,” and then

answer the following questions:

a. What does the recent economic history of Brazil tell you about the relationship between

price inflation and exchange rates? What other factors might determine exchange rates

for the Brazilian real?

b. Is a decline in value of the real against the U.S. dollar good for Embraer, bad for

Embraer, or a mixed bag? Explain your answer.

c. What kind of foreign exchange risks is Embraer exposed to? Can Embraer reduce these

risks? How?

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e. Since 2008, Embraer has significantly reduced its dollar hedging operations. Is this wise?

f. Between mid-2014 and early 2015, the real depreciated significantly against the U.S.

dollar. What do you think the impact was on Embraer?

4. You manufacture wine goblets. In mid-June, you receive an order for 10,000 goblets from

Japan. Payment of ¥400,000 is due in mid-December. You expect the yen to rise from its present

rate of $1 = ¥130 to $1 = ¥100 by December. You can borrow yen at 6 percent a year. What

should you do?

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5. You are the CFO of a U.S. firm whose wholly owned subsidiary in Mexico manufactures

component parts for your U.S. assembly operations. The subsidiary has been financed by bank

borrowings in the United States. One of your analysts told you that the Mexican peso is expected

to depreciate by 30 percent against the dollar on the foreign exchange markets over the next year.

What actions, if any, should you take?

Exercise 1

Search phrase: currency exchange

Resource Name: XE: Currency and Foreign Exchange

Exercise 2

Search phrase: fx street

Resource Name: FX Street

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The Mexican Peso, the Japanese Yen, and Pokemon Go

1. Why are most trades between the Japanese yen and the Mexican peso made through U.S.

dollars?

2. Explain why the peso fell in value against the Japanese yen during 2016. How predictable was

this fall?

3. What were the benefits of the fall in the value of the peso against the yen for Mexican

companies? What were the costs?

4. What were the benefits of the fall in the value of the peso against the yen for Japanese

companies? What were the costs?

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5. Should Japanese companies such as Nintendo and Toyota with business in Mexico have

hedged against adverse changes in the peso/yen exchange rate? How might they have done that?

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Continuous Case Concept

As the world’s automakers search around the globe for the best suppliers for their parts, and at

the same time, focus on new markets such as China and India, controlling for changes in

exchange rates becomes an important part of their financial strategies.

• Ask students to identify the types of exposure to foreign exchange rates automakers are

likely to encounter.

• Then, ask students to develop a plan for controlling for the exposure. Discuss why a

company might choose one hedging strategy over another. For example, Subaru is

expanding its presence in the United States to capitalize on greater access to the U.S.

market and the potential of a weaker dollar in the future. The company has also benefited

from its hedging strategy to control for exposure to currency movements. Several

automakers including Honda, Nissan, and Toyota have struggled with a strong yen which

has limited their ability to expand globally.

• Finally, ask students to consider what exchange rates mean to companies that draw a

significant percentage of their revenues from foreign countries. How do the strategies of

these companies differ from those of companies that can rely on their domestic market

for the majority of their sales?

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Additional Readings and Sources of Information

What the Decline of the Dollar Means

https://www.nytimes.com/2017/07/20/business/dealbook/what-the-decline-of-the-dollar-

means.html

Signs point to the Japanese yen getting even stronger as the U.S. dollar weakens

https://www.cnbc.com/2018/02/27/japanese-yen-may-strengthen-as-dollar-weakens-morgan-

stanley-and-ing.html

Japan Government Calls for Stable FX, Seeks to Jawbone Strong Yen

https://money.usnews.com/investing/news/articles/2018-02-13/japan-government-calls-for-

stable-fx-seeks-to-jawbone-strong-yen

Foreign Exchange Risk

https://www.export.gov/article?id=Trade-Finance-Guide-Chapter-14-Foreign-Exchange-FX–

Risk-Management

New iPhones: Why Is Apple pricing the same in pounds and dollars?