International Financial Management Unit 1 The International Monetary System Roland Fox

International Financial Management International Financial Markets UNITS Madura & Fox International Financial Management* 1. International monetary system Ch 2 2. The market for foreign exchange Chs 3, 4, 6, 7 & 8 3. The derivative market and hedging strategies Ch 5 Financial Management and the Multinational Firm 4. Globalisation and the multinational firm Ch 1&16 5. Foreign investment Chs 13, 14 & 15 6. Multinational treasury management Chs 17,18 & 19 7. Review Ch 20 1

The International Monetary system overview Home Economy Finance - interest rates, risk, return Economics - prices, wealth, companies currency £ IMF World Bank UN (UNCTAD) WTO G8 EU NAFTA International markets Exchange rates   Trade & investment Other Economies Finance - interest rates, risk, return Economics - prices, wealth, companies currency: euro, $ etc Own Currency = own interest, prices (inflation) , borrowing, taxes

The International Monetary system We look at: IMF Markets Government Balance of Payments  

The International Monetary system IMF IMF role: Promote cooperation among countries on international monetary issues Promote stability in exchange rates Help correct temporary imbalances in trade Promote free trade and investment   4

The International Monetary system IMF IMF role: Promote cooperation among countries on international monetary issues Promote stability in exchange rates Help correct temporary imbalances in trade Promote free trade and investment Is accused of: Promoting Western Interests Imposing harsh conditions on loans Not addressing problems of hot money Not predicting crises Allowing the gross imbalance of US trade to continue Allowing slack standards for international transactions  

The International Monetary system IMF  

The International Monetary system markets International Finance, K Pilbeam (Palgrave MacMillan)  

The International Monetary system markets International Finance, K Pilbeam (Palgrave MacMillan)  

The International Monetary system. Table 11.1 Foreign exchange market turnover (daily average in billions of US Dollars) International Finance, K Pilbeam (Palgrave MacMillan)   The audio talks about the advantages and disadvantages of the market place and addresses: Maturity transformation Risk transformation Liquidity And size Valuation as being advantages and fopr the disadvantages Limited information Cost Accounting rules Corruption and market panics UK GDP $2,814bn

The International Monetary system What can Governments do? Regulation: licensing, reporting, defining legality Fiscal measures – increase/ decrease taxes Government spending Quantitative easing / restriction M x V = P x Q increase the money supply [buy bonds, Government spending]  interest rate falls – business increases?  hold on to money– the liquidity trap .  Q remains static and P increases - inflation   Inflation is a form of tax… 10

International Financial Management. The Balance of payments

The Balance of Payments. £bn (1 billion = 1,000 million) Current a/c Exports goods & services 404 Imports goods & services ( 424) (20) Financial a/c & Capital a/c Investment overseas (80) Investment into UK 101 Red’n in reserves 1 other transactions (3) 19 Balancing item 1 ( ) net supply of £’s for FC no brackets net demand for £’s by FC  

The Balance of Payments   If there were no banks and you wanted to buy US goods in $s you would have to find someone wanting £s. suppose you find someone who wants £100 to buy a Ted Baker handbag And offers you $160 you accept. This is recorded as Imports (£100 ) and exports £100.

The Balance of Payments.  

The Balance of Payments Current and Financial a/c Analysis scenario 1 2 current a/c - + financial a/c + - 0 0 +/- = net demand and supply of £’s for foreign exchange How it should work: Developing country 1; Developed country 2 How it has worked: Developed country 1; Developing country 2 Which is better?  

The Balance of Payments  

The Balance of Payments Elasticity Elasticity – a devaluation changes the price of all imports and all exports…but what happens to the quantity? |%change in quantity of imports or exports| |%change in price of foreign currency|   For a devaluation… Elasticity greater than 1 e.g. 6% / 5% total £ value of exports increases or imports decrease we say that this is elastic Elasticity less than 1 e.g. 3% / 5% total value £ of exports still increases but imports also increase we say that this is inelastic 17

The Balance of Payments (BoP) Elasticity Elasticity – a devaluation changes the price of all imports and all exports… |%change in quantity| |%change in price| A devaluation to benefit the current account must be such that: |%change in quantity imports| + %change in quantity exports > %change in price e.g. devaluation of 5% and no change in export or import quantities worsens the balance of payments by 5% x quantity of imports Devaluation of 5% and a decrease in quantity of imports of 4% and an increase in exports of 3% then (%change in quantity imports) + %change in quantity exports > %change in price |4%| + 3% > 5%   If exports are £500 and imports are £500 and the elasticity of exports is 0.6 and the elasticity of imports is 0.8, what would be the effect of a 5% devaluation? 18

International Monetary System QUIZ– Question Slide 1. Why is currency more than national pride? 2 2. How is money democracy and sovereignty represented by international organisations? 3. What is meant by no overall system of international financial management 4. Name the two types of investment 2 &14 5. What are the problems facing the IMF? 5 6. Which is the largest stock market 7 7. Do stock markets reflect the size of the economy? 8. Name 2 large international financial centres? 8 9. What is the single most important fact in international finance and why? 9 10. Name 3 significant roles that governments play in international finance 10 11. What accounts make up the balance of payments? 12 12. Why does the balance of payments balance? 13 13. Name the 2 largest exporting countries 14 14. What has been far more effective than the efforts of all charities? 15. In what sense are the activities recorded in the balance of payments promoting world peace? 16. What are the 2 models of finance for developing countries? 15 17. How can devaluation worsen a balance of payments? 16 & 17 18. How can devaluation improve a balance of payments? 18   If exports are £500 and imports are £500 and the elasticity of exports is 0.6 and the elasticity of imports is 0.8, what would be the effect of a 5% devaluation? 19