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International Finance Exam 1
Terms in this set (33)
What's special about International Finance?
Three major dimensions set international finance apart from domestic finance:
1. Foreign exchange risk and political risks
2. Market imperfections
3. Expanded opportunity set
Foreign exchange risk
the risk of facing uncertain future exchange rates.
Exchange rates among major currencies (e.g., USD, Japanese Yen, British pound, Euro) fluctuate continuously in an unpredictable manner.
arises from potential losses to the parent firm resulting from adverse political developments in the host country.
Ranges from unexpected changes in tax rules to outright expropriation of assets held by foreigners. Arises from the fact that sovereign nations can change the rules of the game at any time and the effected parties may not have any effective recourse.
may be described as various frictions, such as transaction costs and legal restrictions, that prevent the markets from functioning perfectly.
E.g.- shipping costs, transaction costs, tariffs, etc. Any barrier that tampers the free movement of capital, goods, people, or services across nations.
Nestle used to issue two types of shares:
bearer shares and registered shares
Who could buy Nestle's bearer shares?
Only foreigners (these were the more expensive stock shares).
Who could buy registered shares?
Swiss nationals (these were listed at a lower price).
What happened when Nestle lifted its restriction?
Foreigners were now allowed to hold registered shares as well as bearer shares.
What did the public see after Nestle lifted this restriction imposed on foreigners?
We see a transfer of wealth from foreigner shareholders (bearer shares) to Swiss nationals (registered shares).
registered to their owner. You don't have to possess a stock certificate in order to sell these shares or receive dividends.
are not registered to their owner. Whoever possesses the stock certificate is the person who can cash it or collect any dividends that are paid.
Bearer shares can be anonymous which can be beneficial in some instances (not registered). But they have the same loss feature as cash (a $20 bill is not registered to you).
Firms may benefit from an _________ when they venture into the arena of global markets
expanded opportunity set.
This is true for corporations and individual investors. --> Firms gain from the greater economies of scale by raising capital and producing & selling internationally. Investors can diversify and look globally at different markets.
Principal argument for international trade is based on the ....
theory of comparative advantage
Theory of comparative advantage
It is mutually beneficial for countries if they specialize in the production of those goods they can produce most efficiently and trade those goods among them.
General Agreement on Tariffs and Trade (GATT)
multilateral agreement between member countries that has reduced the barriers to trade
World Trade Organization (WTO)
has the power to enforce the rules of international trade.
Regional agreements that have been instituted to promote economic integration:
1. North American Free Trade Agreement (NAFTA)
2. African Continental Free Trade Agreement (AfCFTA)
3. Trans-Pacific Partnership (TPP)
North American Free Trade Agreement (NAFTA)
Signed in 1994 and called for phasing out impediments to trade between North American countries-- Canada, US, and Mexico. The free trade agreement is not only for goods or services, but also for people. The NAFTA agreement has been very beneficial to Mexico.
In November 2018, three member countries of NAFTA signed a new accord called the
African Continental Free Trade Agreement (AfCFTA)
signed by 49 African countries. Aims to stimulate intra-African trade and investment by reducing tariffs and protecting intellectual property rights.
Trans-Pacific Partnership (TPP)
Designed to slash the tariffs and facilitate trade among the 11 Pacific Rim member countries. Signed in 2018.
May be described as a denationalization process. It is the act of a country divesting itself of ownership and operation of business ventures by turning them over to the free market system
State owned enterprises (SOEs) have been listed on organized stock exchanges, making them eligible for private ownership.
China has 2 or more types of shares:
1. A shares: primarily reserved for Chinese citizens.
2. B shares or H shares: foreign shares are primarily reserved for foreigners.
Multinational corporation (MNC)
a firm that has been incorporated in one country and has production and sales operations in other countries. Approximately 60K MNCs in the world with over 500K foreign affiliates.
There are 5 international monetary systems:
2. Classical gold standard
3. Interwar Period
4. Bretton Woods System
5. Flexible Exchange Rate Regime
Time before 1875. The first monetary system. Gold and silver were used as an international means of payment and exchange rates were determined by either their gold or silver contents.
Developed during Bimetallism. The least valuable currency (metal) is the one that tends to circulate the most. "Bad money" (overvalued) will drive out "good money" (artificially undervalued) out of circulation.
The monetary system of bimetallism is unstable. Due to the fluctuation of the commercial value of the metals..
The metal with a commercial value HIGHER than the currency value tends to be used as metal and is withdrawn from circulation as money.
Classical Gold Standard
Most countries used gold alone as currency. From 1975 to 1914. This is the second monetary system.
Gold Standard exists if these 3 conditions are met:
1. Gold alone was assured of unrestricted coinage.
2. There was a two-way convertibility between gold and national currencies at a stable (fixed) ratio.
3. Gold could be freely imported and exported
Price Specie flow mechanism
Any misalignment of exchange rates and international imbalances of payments were automatically corrected using this method.
The price specie flow mechanism is based on the
Quantity theory of money: when money supply increases, the value of money falls and prices increase.
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