Blades, the U.S.-based roller blades manufacturer, is currently both exporting to and importing from Thailand. The company has chosen Thailand as an export target for its primary product, Speedos, because of Thailand’s growth prospects and the lack of competition from both Thai and U.S. roller blades manufacturers in Thailand. Under an existing arrangement, Blades sells 180,000 pairs of Speedos annually to Entertainment Products, Inc., a Thai retailer. The arrangement involves a fixed, baht-denominated price and will last for three years. Blades generates approximately 10 percent of its revenue in Thailand. The company has also decided to import certain rubber and plastic components needed to manufacture Speedos because of cost and quality considerations. Specifically, the weak economic conditions in Thailand resulting from recent events have allowed Blades to import components from the country at a relatively low cost. However, Blades did not enter into a longterm arrangement to import these components, and it pays market prices (in baht) prevailing in Thailand at the time of purchase. Currently, the firm incurs approximately 4 percent of its cost of products sold in Thailand. Although Blades has no immediate plans for expansion in Thailand, it may establish a subsidiary there in the future. Moreover, even if Blades does not establish a subsidiary in Thailand, it will continue exporting to and importing from the country for several years. Due to these considerations, Blades’ management is very concerned about recent events in Thailand and neighboring countries, as they may affect both Blades’ current performance and its future plans. Ben Holt, Blades’ CFO, is particularly concerned about the level of inflation in Thailand. Blades’ export arrangement with Entertainment Products, while allowing for a minimum level of revenue to be generated in Thailand in a given year, prevents Blades from adjusting its prices according to the level of inflation in Thailand. In retrospect, Holt is wondering whether Blades should have entered into the export arrangement at all. Because Thailand’s economy was growing very fast when Blades agreed to the arrangement, strong consumer spending there resulted in a high level of inflation and high interest rates. Naturally, Blades would have preferred an agreement whereby the price per pair of Speedos would be adjusted for the Thai level of infla tion. However, to take advantage of the growth opportunities in Thailand, Blades accepted the arrangement when Entertainment Products insisted on a fixed price level. Currently, however, the baht is freely floating, and Holt now wonders how a relatively high level of Thai inflation may affect the baht–dollar exchange rate and, consequently, Blades’ revenue generated in Thailand. Holt is also concerned about Blades’ cost of products sold incurred in Thailand. Because no fixed-price arrangement exists and the components are invoiced in Thai baht, Blades has been subject to increases in the prices of rubber and plastic. Holt is concerned that a potentially high level of inflation will impact the baht– dollar exchange rate and the cost of products sold incurred in Thailand now that the baht is freely floating. When Holt started thinking about future economic conditions in Thailand and the resulting impact on Blades, he found that he needed your help. In particular, he is vaguely familiar with the concept of purchasing power parity (PPP) and is wondering about this theory’s implications, if any, for Blades. Furthermore, Holt also remembers that relatively high interest rates in Thailand will attract capital flows and put upward pressure on the baht Because of these concerns, and to gain some insight into the impact of inflation on Blades, Holt has asked you to provide him with answers to the following questions: 1. What is the relationship between the exchange rates and the relative inflation levels of the two countries? How will this relationship affect Blades’ Thai revenue and costs, given that the baht is freely floating? What is the net effect of this relationship on Blades? 2. What are some factors that might prevent PPP from occurring in the short run? Would you expect PPP to hold better if countries negotiate trade arrangements under which they commit themselves to the purchase or sale of a fixed number of products over a specified time period? Why or why not? 3. How do you reconcile the high level of interest rates in Thailand with the expected change of the baht–dollar exchange rate according to PPP? 4. Given Blades’ future plans in Thailand, should the company be concerned with PPP? Why or why not? 5. PPP may hold better for some countries than for others. The Thai baht has been freely floating for more than a decade. How do you think Blades can gain insight into whether PPP holds for Thailand? Offer some logic to explain why the PPP relationship may not hold here.
> Explain the potential feedback effects of a currency’s changing value on inflation.
> What is the impact of a weak home currency on the home economy, other things being equal? What is the impact of a strong home currency on the home economy, other things being equal?
> Assume there is concern that the United States may experience a recession. How should the Federal Reserve influence the dollar to prevent a recession? How might U.S. exporters react to this policy (favorably or unfavorably)? What about U.S. importing fir
> How can a central bank use indirect intervention to change the value of its home currency?
> a. Explain why one country abandoning the euro could reduce the value of the euro, even if that country accounts for a very small proportion of the total production among all eurozone participants. b. Explain why one country abandoning the euro could af
> Blades, Inc., is currently exporting roller blades to Thailand and importing certain components needed to manufacture roller blades from that country. Under a fixed contractual agreement, Blades’ primary customerin Thailand at a cost of
> a. Explain the dilemma that the ECB faces as it attempts to help countries with large budget deficits. b. Describe the types of conditions that the ECB requires when providing credit to countries that need to resolve their budget deficit problems. c. W
> a. Assume that the Federal Reserve engages in intervention by exchanging a very large amount of Canadian dollars for U.S. dollars in the foreign exchange market. Will this action increase, reduce, or have no effect on Canadian inflation? Briefly explain.
> Assume that the United States has a weak economy and that the Fed wants to correct this problem by adjusting the value of the dollar. The Fed is not worried about inflation. Assume that the eurozone has a somewhat similar economic situation as the United
> How can a central bank use direct intervention to change the value of a currency? Explain why a central bank may desire to smooth the exchange rate movements of its currency.
> Assume that France wants to change the prevailing spot rate of its currency (euro) so as to improve its economy; likewise, Switzerland wants to change the prevailing value of its currency (Swiss franc) so as to improve its economy. Which of these two cou
> The United States, Argentina, and Canada commonly engage in international trade with each other. All the products traded can easily be produced in all three countries. The traded products are always invoiced in the exporting country’s currency. Assume th
> Interest rate parity exists and will continue to exist. The one-year interest rate in the United States and in the eurozone is 6 percent and will continue to be 6 percent. Assume that Denmark’s currency (called the krone) is currently pegged to the euro
> The inflation rate in Yinland was 14 percent last year. The government of Yinland just devalued its currency (the yin) by 40 percent against the dollar. Even though it produces products similar to those of the United States, Yinland has much trade with t
> Assume that Canada decides to peg its currency (the Canadian dollar) to the U.S. dollar and that the exchange rate will remain fixed. Assume that Canada commonly obtains its imports from the United States and Mexico. The United States commonly obtains it
> The country of Zapakar has much international trade with the United States and other countries, as it has no significant barriers on trade or capital flows. Many firms in Zapakar export common products (denominated in Zapakar’s currency, called zaps) tha
> The Sports Exports Company converts British pounds into dollars every month. The prevailing spot rate is about $1.65, but there is much uncertainty about the future value of the pound. Jim Logan, owner of the Sports Exports Company, expects that British
> Assume the Hong Kong dollar (HK$) value is tied to the U.S. dollar and will remain tied to the U.S. dollar. Last month, one HK$ 5 0.25 Singapore dollar. Today, one HK$ 5 0.30 Singapore dollar. Assume that much trade in the computer industry occurs among
> Assume that you expect the European Central Bank to engage in central bank intervention by using euros to purchase a substantial amount of U.S. dollars in the foreign exchange market over the next month. Assume that this direct intervention is expected t
> As of 10:00 a.m., the premium on a specific one-year call option on British pounds is $0.04. Assume that the Bank of England had not been intervening in the foreign exchange markets in the last several months. However, it announces at 10:01 a.m. that it
> Assume that the central bank of the country Zakow periodically intervenes in the foreign exchange market to prevent large upward or downward fluctuations in its currency (the zak) against the U.S. dollar. Today, the central bank announced that it would n
> Assume that Belgium, one of the European countries that uses the euro as its currency, would prefer that its currency depreciate against the U.S. dollar. Can it apply central bank intervention to achieve this objective? Explain.
> Why might a country suddenly decide to peg its currency to the dollar or some other currency? When a currency is unable to maintain the peg, which forces usually act to break the peg?
> Assume you have a subsidiary in Australia. The subsidiary sells mobile homes to local consumers in Australia, who buy the homes using mostly borrowed funds from local banks. Your subsidiary purchases all of its materials from Hong Kong. The Hong Kong dol
> Within a few days after the September 11, 2001, terrorist attack on the United States, the Federal Reserve reduced short-term interest rates to stimulate the U.S. economy. How might this action have affected the foreign flow of funds into the United Stat
> During the Asian crisis (see Appendix 6 at the end of this chapter), some Asian central banks raised their interest rates to prevent their currencies from weakening. Yet the currencies weakened anyway. Offer your opinion as to why the central banks’ effo
> During the Asian crisis (see Appendix 6 at the end of this chapter), some Asian central banks raised their interest rates to prevent their currencies from weakening. Yet the currencies weakened anyway. Offer your opinion as to why the central banks’ effo
> Recall that Blades, Inc., the U.S.-based manufacturer of roller blades, is currently both exporting to and importing from Thailand. Ben Holt, Blades’ chief financial officer (CFO), and you, a financial analyst at Blades, are reasonably happy with Blades’
> Should the governments of Asian countries allow their currencies to float freely? What would be the advantages of letting their currencies float freely? What would be the disadvantages?
> Suppose that the government of Chile reduces one of its key interest rates. The values of several other Latin American currencies are expected to change substantially against the Chilean peso in response to the news. a. Explain why other Latin American
> Explain the difference between sterilized and nonsterilized interventions.
> If most countries in Europe experience a recession, how might the European Central Bank use direct intervention to stimulate economic growth?
> U.S. bond prices are usually inversely related to U.S. inflation. If the Fed planned to use intervention to weaken the dollar, how might bond prices be affected?
> Compare and contrast the fixed, freely floating, and managed float exchange rate systems. What are some advantages and disadvantages of a freely floating exchange rate system versus a fixed exchange rate system?
> List the factors that affect currency put option premiums, and briefly explain the relationship that exists for each
> List the factors that affect currency call option premiums, and briefly explain the relationship that exists for each. Do you think an at-the-money call option in euros has a higher or lower premium than an at-the-money call option in Mexican pesos (assu
> When should a speculator purchase a call option on Australian dollars? When should a speculator purchase a put option on Australian dollars?
> When would a U.S. firm consider purchasing a call option on euros for hedging? When would a U.S. firm consider purchasing a put option on euros for hedging
> The “Market” section of the Bloomberg website (www .bloomberg.com) provides interest rate quotations for numerous currencies. 1. Review the section of the website that provides interest rates for various countries (look under Rates & Bonds). Determine t
> How can a forward contract backfire?
> Assume that Australia’s central bank announced plans to stabilize the Australian dollar (A$) in the foreign exchange markets. In response to this announcement, the expected volatility of the A$ declined immediately. However, the spot rate of the A$ remai
> The spot rate of the New Zealand dollar is $0.77. A call option on New Zealand dollars with a one-year expiration date has an exercise price of $0.78 and a premium of $0.04. A put option on New Zealand dollars at the money with a one-year expiration date
> Assume that one year ago, the spot rate of the British pound was $1.70, and the one-year futures contract of the British pound exhibited a discount of 6 percent. At that time, you sold futures contracts on pounds, representing a total of £1,000,000. From
> At 10:30 a.m., the media reported news that the Mexican government’s political problems had decreased, which reduced the expected volatility of the Mexican peso against the dollar over the next month. The spot rate of the Mexican peso was $0.13 as of 10
> Compute the forward discount or premium for the Mexican peso whose 90-day forward rate is $0.102 and spot rate is $0.10. State whether your answer is a discount or premium.
> This morning, a Canadian dollar call option contract has a $0.71 strike price, a premium of $0.02, and an expiration date of one month from now. This afternoon, news about international economic conditions increased the level of uncertainty surrounding t
> On July 2, the two-month futures rate of the Mexican peso contained a 2 percent discount (unannualized). A call option on pesos was available with an exercise price that was equal to the spot rate. In addition, a put option on pesos was available with an
> Two British pound (£) put options are available with exercise prices of $1.60 and $1.62. The premiums associated with these options are $0.03 and $0.04 per unit, respectively. (See Appendix B in this chapter.) a. Describe how a bull spread
> A call option on British pounds (£) exists with a strike price of $1.56 and a premium of $0.08 per unit. Another call option on British pounds has a strike price of $1.59 and a premium of $0.06 per unit. (See Appendix B in this chapter.) Com
> Barry Egan is a currency speculator. Barry believes that the Japanese yen will fluctuate widely against the U.S. dollar in the coming month. Currently, one-month call options on Japanese yen (¥) are available with a strike price of $0.0085 and a premium
> For the following options available on Australian dollars (A$), construct a worksheet and contingency graph for a long strangle. Locate the break-even points for this strangle. (See Appendix B in this chapter.) Put option strike price 5 $0.67. Call opt
> The following information is currently available for Canadian dollar (C$) options (see Appendix B in this chapter): Put option exercise price 5 $0.75. Put option premium 5 $0.014 per unit. Call option exercise price 5 $0.76. Call option premium 5 $0.
> Refer to the previous question, but assume that the call and put option premiums are $0.035 per unit and $0.025 per unit, respectively. (See Appendix B in this chapter.) a. Construct a contingency graph for a long pound strangle. b. Construct a continge
> Assume the following options are currently available for British pounds (£): Call option premium on Britishpounds 5$0.04 perunit. Put option premium on British pounds5$0.03 perunit. Call option strike price $ 5 1.56. Put option strike price $ 5 1.53.
> Maggie Hawthorne is a currency speculator. She has noticed that recently the euro has appreciated substantially against the U.S. dollar. The current exchange rate of the euro is $1.15. After reading a variety of articles on the subject, Maggie believes t
> Differentiate between a currency call option and a currency put option.
> The current spot rate of the Singapore dollar (S$) is $0.50. The following option information is available: Call option premium on Singapore dollar (S$) $ 5 0.015. Put option premium on Singapore dollar (S$) $ 5 0.009. Call and put option strike price $
> Refer to the previous question, but assume that the call and put option premiums are $0.02 per unit and $0.015 per unit, respectively. (See Appendix B in this chapter.) a. Construct a contingency graph for a long euro straddle. b. Construct a contingency
> Reska, Inc., has constructed a long euro straddle. A call option on euros with an exercise price of $1.10 has a premium of $0.025 per unit. AÂ euro put option has a premium of $0.017 per unit. Some possible euro values at option expiration are
> During the Asian crisis, the currencies of many Asian countries declined even though their governments attempted to intervene with direct intervention or by raising interest rates. Given that the abrupt depreciation of the currencies was attributed to an
> Myrtle Beach Co. purchases imports that have a price of 400,000 Singapore dollars, and it has to pay for the imports in 90 days. It can purchase a 90-day forward contract on Singapore dollars at $0.50 or purchase a call option contract on Singapore dolla
> One year ago, you sold a put option on 100,000 euros with an expiration date of one year. You received a premium on the put option of $0.04 per unit; the exercise price was $1.22. Assume that one year ago, the spot rate of the euro was $1.20, the one-yea
> Currency futures markets are commonly used as a means of capitalizing on shifts in currency values, because the value of a futures contract tends to move in line with the change in the corresponding currency value. Recently, many currencies have apprecia
> A U.S. professional football team plans to play an exhibition game in the United Kingdom next year. Assume that all expenses will be paid by the British government, and that the team will receive a check for 1 million pounds. The team anticipates that th
> Bulldog, Inc., has sold Australian dollar put options at a premium of $0.01 per unit, and an exercise price of $0.76 per unit. It has forecasted the Australian dollar’s lowest level over the period of concern as shown in the following t
> Bama Corp. has sold British pound call options for speculative purposes. The option premium was $0.06 per unit, and the exercise price was $1.58. Bama will purchase the pounds on the day the options are exercised (if the options are exercised) to fulfill
> Auburn Co. has purchased Canadian dollar put options for speculative purposes. Each option was purchased for a premium of $0.02 per unit, with an exercise price of $0.86 per unit. Auburn Co. will purchase the Canadian dollars just before it exercises the
> How can corporations use currency futures? b. How can speculators use currency futures?
> LSU Corp. purchased Canadian dollar call options for speculative purposes. If these options are exercised, LSU will immediately sell the Canadian dollars in the spot market. Each option was purchased for a premium of $0.03 per unit, with an exercise pric
> Assume that a March futures contract on Mexican pesos was available in January for $0.09 per unit. Also assume that forward contracts were available for the same settlement date at a price of $0.092 per peso. How could speculators capitalize on this situ
> Why do you think the depreciation of the Asian currencies adversely affected U.S. firms? (There are at least three reasons, each related to a different type of exposure of some U.S. firms to exchange rate risk.)
> Assume that on November 1, the spot rate of the British pound was $1.58 and the price on a December futures contract was $1.59. Assume that the pound depreciated during November so that by November 30 it was worth $1.51. a. What do you think happened to
> Assume that the transactions listed in the first column of the following table are anticipated by U.S. firms that have no other foreign transactions. Place an “X” in the table wherever you see possible ways to hedge ea
> Assume that the euro’s spot rate has moved in cycles over time. How might you try to use futures contracts on euros to capitalize on this tendency? How could you determine whether such a strategy would have been profitable in previous periods?
> What are the advantages and disadvantages to a U.S. corporation that uses currency options on euros rather than a forward contract on euros to hedge its exposure in euros? Explain why an MNC might use forward contracts to hedge committed transactions and
> Brian Tull sold a put option on Canadian dollars for $0.03 per unit. The strike price was $0.75, and the spot rate at the time the option was exercised was $0.72. Assume Brian immediately sold the Canadian dollars received when the option was exercised.
> Mike Suerth sold a call option on Canadian dollars for $0.01 per unit. The strike price was $0.76, and the spot rate at the time the option was exercised was $0.82. Assume Mike did not obtain Canadian dollars until the option was exercised. Also assume t
> Alice Duever purchased a put option on British pounds for $0.04 per unit. The strike price was $1.80,and the spot rate at the time the pound option was exercised was $1.59. Assume there are 31,250 units in a British pound option. What was Alice’s net pro
> Randy Rudecki purchased a call option on British pounds for $0.02 per unit. The strike price was $1.45, and the spot rate at the time the option was exercised was $1.46. Assume there are 31,250 units in a British pound option. What was Randy’s net profit
> Compare and contrast forward and futures contracts
> Assume that substantial capital flows occur among Canada, the United States, and Japan. If the interest rate in Canada declines to a level below the U.S. interest rate, and inflationary expectations remain unchanged, how could this affect the value of th
> Why do you think the values of bonds issued by Asian governments declined during the Asian crisis? Why do you think the values of Latin American bonds declined in response to the Asian crisis?
> What factors affect the future movements in the value of the euro against the dollar?
> Explain why a public forecast by a respected economist about future interest rates could affect the value of the dollar today. Why do some forecasts by well-respected economists have no impact on today’s value of the dollar?
> What is the expected relationship between the relative real interest rates of two countries and the exchange rate of their currencies?
> Assume that the Japanese government relaxes its controls on imports by Japanese companies. Other things being equal, how should this affect (a) the U.S. demand for Japanese yen, (b) the supply of yen for sale, and (c) the equilibrium value of the yen?
> Assume that the U.S. income level rises at a much higher rate than does the Canadian income level. Other things being equal, how should this affect (a) the U.S. demand for Canadian dollars, (b) the supply of Canadian dollars for sale, and (c) the equi
> The New Zealand dollar’s spot rate was equal to $0.60 last month. New Zealand conducts much international trade with the United States, but the financial (investment) transactions between the two countries are negligible. Assume the following conditions
> The country of Neeland has stable and predictable international trade flows with the United States. Neeland periodically makes the news because its government might have problems repaying its debt owed to local banks. The value of its currency (the “nee”
> The country of Vezot has massive capital flows with the United States because it has no restrictions on the movement of investment funds into or out of the country. Its inflation rate just increased substantially, while the U.S. inflation rate remains un
> The country of Zars has large capital flows with the United States. It has no trade with the United States and will not have trade with the United States in the future. Its interest rate is 6 percent, the same as the U.S. interest rate. Its rate of infla
> The country of Quinland has large capital flows with the United States. It has no trade with the United States and will not have trade with the United States in the future. Its interest rate is 6 percent, the same as the U.S. interest rate. You expect th
> During the Asian crisis, Hong Kong and China successfully intervened (by raising their interest rates) to protect their local currencies from depreciating. Nevertheless, these countries were also adversely affected by the Asian crisis. Why do you think t
> Here are exchange rates for the Japanese yen and British pound at the beginning of each of the last five years. Your firm wants to determine which currency is more volatile as it assesses its exposure to exchange rate risk. Estimate the volatility of eac
> Assume U.S. interest rates fall relative to British interest rates. Other things being equal, how should this affect (a) the U.S. demand for British pounds, (b) the supply of pounds for sale, and (c) the equilibrium value of the pound?
> Last year a dollar was equal to 7 Swedish kronor, and a Polish zloty was equal to $0.40. Today, the dollar is equal to 8 Swedish kronor, and a Polish zloty is equal to $0.44. By what percentage did the cross exchange rate of the Polish zloty in Swedish k
> Assume that inflation is zero in the United States and in Europe and will remain at zero. U.S. interest rates are presently the same as in Europe. Assume that economic growth in the United States is presently similar to that occurring in Europe. Assume t
> Assume you want to determine whether the monthly movements in the Polish zloty against the dollar are more volatile than the monthly movements in some other currencies against the dollar. The zloty was valued at $0.4602 on May 1, $.4709 on June 1, $0.488
> Kurnick Co. expects that the pound will depreciate from $1.70 to $1.68 in one year. It has no money to invest, but it could borrow money to invest. A bank allows the company to borrow either $1 million or £1 million for one year. Kurnick can borrow dolla
> The country of Luta has large capital flows with the United States. It has no trade with the United States and will not have trade with the United States in the future. Its interest rate is 6 percent, the same as the U.S. interest rate. Its rate of infla
