Total pages; 17

INTERNATIONAL FINANCE

Anusha Rajan
M com 18
3) Discuss the advantages and disadvantages of MNCs with
examples

ADVANTAGES OF MNCs
Access to Consumers – Access to consumers is one of the primary advantages that
the MNCs enjoy over companies with operations limited to smaller region.
Increasing accessibility to wider geographical regions allows the MNCs to have a
larger pool of potential customers and help them in expanding, growing at a faster
pace as compared to others.
Accesses to Labor – MNCs enjoy access to cheap labor, which is a great advantage
over other companies. A firm having operations spread across different
geographical areas can have its production unit set up in countries with cheap
labor. Some of the countries where cheap labor is available is China, India, Pakistan
etc.
Taxes and Other Costs – Taxes are one of the areas where every MNC can take
advantage. Many countries offer reduced taxes on exports and imports in order to
increase their foreign exposure and international trade. Also countries impose
lower excise and custom duty which results in high profit margin for MNCs. Thus
taxes are one of the area of making money but it again depends on the country of
operation.
Overall Development – The investment level, employment
level, and income level of the country increases due to the
operation of MNC’s. Level of industrial and economic
development increases due to the growth of MNCs.
Technology – The industry gets latest technology from
foreign countries through MNCs which help them improve
on their technological parameter.
R&D – MNCs help in improving the R&D for the economy.
Exports & Imports – MNC operations also help in improving
the Balance of payment. This can be achieved by the
increase in exports and decrease in the imports.
MNCs help in breaking protectionalism and also helps in
curbing local monopolies, if at all it exists in the country.
DISADVANTAGES OF
MNCs
Laws – One of the major disadvantage is the strict and stringent laws
applicable in the country. MNCs are subject to more laws and
regulations than other companies. It is seen that certain countries do
not allow companies to run its operations as it has been doing in other
countries, which result in a conflict within the country and results in
problems in the organization.
Intellectual Property – Multinational companies also face issues
pertaining to the intellectual property that is not always applicable in
case of purely domestic firms
Political Risks – As the operations of the MNCs is wide spread across
national boundaries of several countries they may result in a threat to
the economic and political sovereignty of host countries.
Loss to Local Businesses – MNCs products sometimes lead to the killing
of the domestic company operations. The MNCs establishes their
monopoly in the country where they operate thus killing the local
businesses which exists in the country.
Loss of Natural Resources – MNCs use natural resources of
the home country in order to make huge profit which
results in the depletion of the resources thus causing a loss
of natural resources for the economy
Money flows – As MNCs operate in different countries a
large sum of money flows to foreign countries as payment
towards profit which results in less efficiency for the host
country where the MNCs operations are based.
Transfer of capital takes place from the home country to the
foreign ground which is unfavorable for the economy.
4 ) Differentiate Between absolute and relative ppp theory
Absolute PPP
The absolute PPP is similar to the Law of
One Price.
The concept of the Law of One Price means
that the prices of the same products in
different countries should be equal when
they’re measured in a common currency.
Consider the dollar–British pound
exchange rate.
absolute PPP can also be shown as the
equality of the price levels in both
countries where, using the dollar-British
pound exchange rate (E), the U.K. price
level is expressed in dollars:
relative PPP
indicates that the changes in the dollar–
British pound exchange rate reflect the
changes in the ratio of the U.S. and U.K.
price levels (PUS and PUK):
absolute PPP indicates that the exchange
rate has to reflect the ratio of two
countries’ price levels.
relative PPP takes these market
imperfections in consideration and
relaxes the relationship between the
exchange rate and the price levels of
two countries
5) what do you mean by foregin exchange Risk? What are
the techniques of managing foregin exchange risk

-The value of a currency changes frequently due to

various factors in the market such as inflation, interest
rates, current account deficits, trade terms, political and
economic performance etc.

-That ultimately affects firms and individuals engaged in

international transactions.

-Foreign exchange risk is a form of financial risk that

arises from the change in the price of one currency
against another
Techniques of foreign exchange risk management
1)Risk Sharing
2)Diversification
3)Natural hedging
4)Payments netting
5)Leading and lagging
6)Overseas loan
7)Borrowing Policy
Risk Sharing: The seller and buyer agree to share the currency
risk in order to keep the long-term relationship based on the
product quality and supplier reliability.

Diversification: It can be done by firms by using funds in more

than one capital market and in more than one currency.
Natural hedging: The relationship between revenues and costs of a
foreign subsidiary sometimes provides a natural hedge, giving the
firm ongoing protection from exchange rate fluctuations.

Payments netting: This method can be used if the companies

having exposed in the multiple currencies. This method gives an
easy control to the company at the time of conversion, because all
the payments are netted to one single transaction and allow the
company follows a consistent policy and this also allows to reduce
transaction cost also.

Leading and Lagging: This method works by adjusting the

payments required reflecting future currency movements. It is a
zero-sum game because if there is a receivable blocked in their
respective currency it will allow them to use it against payable in
the same currency.
Cross Hedging: If a conversion consists of more than one currency then
cross hedging is used for example if an importer receiving payment in
Chinese yuan, it cannot be directly converted into INR so it is first converted
into USD and then INR so in these type of transaction Cross Hedging is used.

Overseas Loans/ Foreign currency: denominated debt: A Trade can avail

the loan in two different currencies. Credit in home currency which have
exchange rate risk and other is in foreign currency which is free from
exchange rate risk. Usually, this method is used if your payments or
receivables are in foreign currency.

Money market Hedge: It is a costly and unused strategy, In this method, the
companies borrow in foreign currency and lends in same currency which will
lead to losing on their spread. Instead of this strategy there can use forward
hedging.

Borrowing Policy: Every company needs to have a strong borrowing policy.

It needs to know whether to go for long-term loans or working capital loans.
Derivatives: Products whose values are derived from the
underlying assets. The four different products are.

Forwards: It is a derivative product where contract holder enters

into a forward contract made today for delivery of an asset at a
predefined time in future at a price agreed upon today. These
contracts are custom made; their quantity and time period can be
adjusted according to the parties understanding. The basic
disadvantage in these type of contacts are found a suitable
counterparty and if the rates move unfavorably then the buyer
ends up paying more.

Futures: These contracts work same as forwards but these

contracts are traded through exchange and they have fixed
quantity and time period.
Options: These types of contracts give the buyer the right to buy or sell
but it is not an obligation to buy or sell. Options are considered as an
appropriate hedging instrument because of it flexibilities in the
conditions and avoid losses. A buyer if this contracts can avail them buy
just paying premium. Options always provide unlimited gains and
limited loss.

Currency Swaps: In these type of agreements two parties exchange

there principle and interest amount into a different currency. The
equivalent principal amounts of the two parties are exchanged at the
spot rate.
6)Discuss on inflation and it's impact on various financial
markets baced on Indian scenario
Inflation is a quantitative measure of the rate at which
the average price level of a basket of selected goods and
services in an economy increases over some period of
time. It is the rise in the general level of prices where a
unit of currency effectively buys less than it did in prior
periods. Often expressed as a percentage, inflation thus
indicates a decrease in the purchasing power of a nation’s
currency.
Demand-Pull Effect
Demand-pull inflation occurs when the overall demand for goods and services in
an economy increases more rapidly than the economy's production capacity. It
creates a demand-supply gap with higher demand and lower supply, which results
in higher prices. For instance, when the oil producing nations decide to cut down
on oil production, the supply diminishes. It leads to higher demand, which results
in price rises and contributes to inflation.

Cost-Push Effect
Cost-push inflation is a result of the increase in the prices of production
process inputs. Examples include an increase in labor costs to manufacture a
good or offer a service or increase in the cost of raw material. These
developments lead to higher cost for the finished product or service and
contribute to inflation.
Built-In Inflation
Built-in inflation is the third cause that links to adaptive expectations. As the price of
goods and services rises, labor expects and demands more costs/wages to maintain
their cost of living. Their increased wages result in higher cost of goods and services,
and this wage-price spiral continues as one factor induces the other and vice-versa.
2) explain arbitrage and low of one price?what is it's
significance in international trade?
The fundamental foundation for the arbitrage pricing
theory (APT) is the law of one price, which states that 2
identical items will sell for the same price, for if they do
not, then a riskless profit could be made by arbitrage—
buying the item in the cheaper market then selling it in the
more expensive market. This principle also applies to
financial instruments, such as stocks and bonds.

There is another law of one price used in arbitrage pricing

theory
It is predicated on the fact that 2 financial instruments or
portfolios—even if they are not identical—should cost the
same if their returns and risks are identical.
Transportation Costs
When dealing in commodities, or any physical good, the cost to
transport them must be included, resulting in different prices when
commodities from two different locations are examined.
Transaction Costs
Because transaction costs exist and can vary across different markets
and geographic regions, prices for the same good can also vary
between markets. Where transaction costs, such as the costs to find an
appropriate trading counterparty or costs to negotiate and enforce a
contract, are higher, the price for a good will tend to be higher there
than in other markets with lower transaction costs.

Legal Restrictions
Legal barriers to trade, such as tariffs, capital controls, or in the case of
wages, immigration restrictions, can lead to persistent price differentials
rather than one price. These will have a similar effect to transportation and
transaction costs, and might even be thought of as a type of transaction cost.
For example, if a country imposes a tariff on the importation of rubber, then
domestic rubber prices will tend to be higher than the world price.
Market Structure
Because the number of buyers and sellers (and the ability of
buyers and sellers to enter the market) can vary between
markets, market concentration and ability of buyers and
sellers to set prices can vary as well.