INTERNATIONAL BUSINESS Chapter 7 Currency and Risk Management

CURRENCY AND CURRENCY EXCHANGE  Currency Management  Money and Currencies  Money – Anything that people accept as payment  Acceptability  To be used as money it must be accepted by a large group  Scarcity  Short supply of a product/item, causing it to be more valuable  Durability  Not easy to damage  Divisibility  It is easily divided into smaller units  Portability  Easy and small enough to carry around

CURRENCY AND CURRENCY EXCHANGE  Uses of Money  Measure of Value  Tells us what something is worth  Medium of Exchange  Only works if people are willing to trade goods for it  Savings Mechanism  Crucial use of money is the ability to store it as savings  Barter  An exchange of goods/services without the use of money  It does express value and is a medium of exchange, it is difficult to save for the future  Currency  The form of money used by a specific country or region

CURRENCY AND CURRENCY EXCHANGE  Currency Exchange  Currency Exchange rate: The rate at which one country’s currency can be traded for another country’s currency.  Hard Currency (Convertible Currency)  Currency that can be exchanged for other currencies at uniform rates in financial centers around the world  Soft Currency  An unstable currency that is not exchanged at major financial centers  Has limited use outside ones country  Exchange Rates and International Business  When Currency Changes Value  Must make changes to compensate for loss

CURRENCY AND CURRENCY EXCHANGE  Factors Affecting Exchange Rates  Balance of Payments  The difference in the amount of money a country pays another country and the amount it receives from them  Economic Conditions  Interest Rates  Inflation Rates  Economic Growth and Decline  GNP vs. GDP  Political Conditions  Possibility of war or overthrow of a government will decrease that countries currency value

CURRENCY AND CURRENCY EXCHANGE  Exchange Rate Problems  Lower profits  More difficult to sell items, because of price changes  Discourage Trade  Managing Exchange Rates  Market Measures (strategies)  Devaluing its currency – helps local vendors protect sales and profits  Nonmarket Measures  Tariffs and Quotas  Exchange Controls – limits amount of currency leaving the country

CURRENCY AND CURRENCY EXCHANGE  International Financial Organizations  International Monetary Fund  Monitors purchases and sales of goods to observe the balance of trade  Suggests economic policies that might help improve trade  Makes loans – low interest to protect countries from becoming overburdened by debt and interest  World Bank  Provide loans and helping improve communication and transportation systems and energy plants in disadvantaged countries  European Economic and Monetary Union  Guides the economies of the EU  Other Exchange Organizations

CURRENCY AND CURRENCY EXCHANGE  Financing an International Business  Intercompany Financing  Borrow or receive money from an existing parent company  Loans from other corporations  Equity Financing  Method a company uses to raise capital by selling shares of stock  Debt Financing- 3 Sources  International bank Loans  Euronote markets  International Bond Markets  Local Currency Financing  Get loans from local banks

RISK MANAGEMENT  Risk Management  Risk vs. Return  The higher the risk the higher the possible return  Risk – The possibility of loss when there is uncertainty associated with the outcome of an event  Commercial Risk  Risk present in day-to-day buying and selling process between  3 Types of Commercial Risk  Exchange Rate Risk  Occurs when the currency exchange rate fluctuates as a transaction takes place  Reducing Exchange Rate Risk  Spot trade- rate between 2 currencies for an immediate trade  Forward rate- fixed for a certain period of time

RISK MANAGEMENT  Transaction Risk  Risk associated with a buyer making installment payments on a purchase  Reducing Transaction Risk  Cash in Advance, Letter of Credit, Bill of exchange, Sale on Account, Promissory note, Electronic Funds Transfer  Commercial Invoice  Written statement of what is sold and terms of the sale  Insurable Risk  Risk that insurance companies will cover, including an “Act of God” and other less random events  Managing Money and Risk  Success in international business means carefully managing every aspect of currency exchanged