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12502/Nirmal Aryal

Assignment 1

Chapter 1

1. Why it is important to study international financial management?


It is essential to study international financial management because we are now living
highly globalized and integrated world economy. Owning to the (a) continuous liberalization
of international trade and investment, and (b) rapid advances in telecommunication and
transportation, the world economy has become even more integrated. Besides, financial
managers should learn how to manage foreign exchange and political risks using proper tools
and instruments, deal with (and take advantage of) market imperfections, and benefit from
the expanded investment and financing opportunities. By doing so, financial managers can
contribute to shareholder wealth maximization, which is the ultimate goal of international
financial management.
2. How is international financial management different from domestic financial
management?
There are three major dimensions that set international finance apart from domestic finance.
They are:
a) Foreign exchange and political risks:
Firms and individuals engaged in cross border transactions are potentially exposed to
foreign exchange risk and political risk that they would not normally encounter in
purely domestic transactions. Foreign exchange risk arises due to fluctuation in the
currency value while Political risk refers to unexpected changes in the tax rules,
investment policy, income repatriation rules etc. These risks have adverse effect on
the consumption, production and investment.
b) Market imperfections:
World Economy is integrated today compared to decade earlier; however, there are
still barriers that hamper free movement of goods, services, and capital across
national boundaries. These barriers include legal restrictions, excessive transaction
and transportation costs, information asymmetry, and discriminatory taxation. The
world market thus, is highly imperfect. There are many important investment
decisions like opening of the new production plan overseas or diversification of the
portfolios etc which are directly affected by the market imperfections.
c) Expanded Opportunity Set:
When firms enter into a global arena, they can benefit from the expanded opportunity
set. Firms can locate production in any country or region of the world to maximize
their performance and raise funds in any capital market where the cost of capital is
lowest. In addition, firms can gain from greater economies of scale when their
tangible and intangible assets are deployed on global basis. Similar is the case for the
individual investors, they can earn higher gain by investing in foreign stocks, can
diversify their portfolio to mitigate the concentration risk and country risk.
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12502/Nirmal Aryal

Assignment 1

Chapter 1

3. Discuss the three major trends that have prevailed in international business during the
last two decades.
The word globalization became a buzzword for describing the business practices in the last
few decades. With it, the three major trends that have prevailed in international business are:
a) The emergence of the globalized financial markets due to rapid integration of the
international capital and financial markets. This integration was outcome of the
deregulation of the foreign exchange and capital markets by the developed countries.
b) Emergence of Euro as a global currency with the establishment of the regional
cooperation union, European Commission. Developed countries with wider international
exposure have currently engaged in this regional co-operation. They have adopted the
common currency by formulating the common monetary policy for the euro zone from
the European central Bank (ECB).
c) Continued trade liberalization and economic integration both at regional and global level,
leading to privatization of the firms. International trade between national economies
continued to expand. Firms started to build on their strength, outsource the regional
functions.
4. How is a countrys economic well-being enhanced through free international trade in
goods and services?
According to David Ricardo, with free international trade, it is mutually beneficial for two
countries to each specialize in the production of the goods that it can produce relatively most
efficiently and then trade those goods. By doing so, the two countries can increase their
combined production, which allows both countries to consume more of both goods. This
argument remains valid even if a country can produce both goods more efficiently than the
other country. International trade is not a zero-sum game in which one country benefits at
the expense of another country. Rather, international trade could be an increasing-sum game
at which all players become winners.

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