International Finance

Maurice D. Levi

• Publisher: Routledge
• Year: 2009
• ISBN:
  9781135975180
• Edition: 1
• Topic: Business
• Subtopic: Business General
• Index: Business

The fifth edition of Maurice D. Levi's classic textbook has been updated to incorporate the massive changes in the world of international finance of the past few years. In particular, the emergence of new markets is given broad coverage – particularly the rise to financial prominence of China and India and other growth economies in Asia and elsewhere. Key features of the book include:

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• the impact of globalization and the greater connectedness of national economies and the world economy as a whole
• probably the best introduction to exchange rates available and how they directly impact upon firms as well as governments
• the continued massive impact of multinational corporations on the global financial scene as well as the opportunities presented by e-commerce.

The material is interlaced with a wealth of supplementary material including real world case studies, review questions, examples and objectives. The result is the most authoritative survey of international finance currently available.

Thoroughly updated and with a large amount of new information, this text will prove an indispensable guide to the inner workings of international finance to students of economics and business as well as professionals in the finance industry.

Part I
International financial markets and environment

Chapter 1
The world of international finance

The globe is not a level playing field.

Anonymous

UNIQUE DIMENSIONS OF INTERNATIONAL FINANCE

While tradition dictates that we continue to refer to the subject matter in this book as international finance, the modifier “international” is becoming increasingly redundant: today, with fewer and fewer barriers to international trade and financial flows, and with communications technology directly linking every major financial center, all finance is becoming “international.” Indeed, not only are domestic financial markets increasingly internationally integrated, but the problems faced by companies and individuals in different lands are remarkably similar.

Even though most if not all finance must be viewed at the international level, there are special problems that arise from financial and trading relations between nations. These are the problems addressed in this book. Many of these problems are due to the use of different currencies used in different countries and the consequent need to exchange them. The rates of exchange between currencies—the amount of a currency received for another—have been set by a variety of arrangements, with the rates of exchange as well as the arrangements themselves subject to change. Movements in exchange rates between currencies can have profound effects on sales, costs, profits, asset and liability values, and individual wellbeing. Other special, uniquely international financial problems arise from the fact that there are political divisions as well as currency divisions between countries. In particular, the world is divided into nation states that generally, but not always, correspond to the currency divisions: some nations share currencies, such as the euro that is the common currency for numerous European nations, and the Russian ruble that is used in Russia as well as some for mer Soviet states. Political barriers provide additional opportunities and risks when engaging in overseas borrowing and investment. International finance has as its focus the problems managers face from these currency and country divisions and the associated opportunities and risks.

THE BENEFITS OF STUDYING INTERNATIONAL FINANCE

Knowledge of international finance can help a financial manager consider how international events may affect a firm and what steps can be taken to exploit positive developments and insulate the firm from harmful ones. Among the events that affect the firm and that must be managed are changes in exchange rates as well as interest rates, inflation rates, and asset values. These different changes are themselves related. For example, declining exchange rates tend to be associated with relatively high interest rates and inflation. Furthermore, some asset prices are positively affected by a declining currency, such as stock prices of export-oriented companies that are more profitable after devaluation. Other asset prices are negatively affected, such as stock prices of companies with foreign-currency denominated debt that lose when the company’s home currency declines: the company’s debt is increased in terms of domestic currency. These connections between exchange rates, asset and liability values and so on mean that foreign exchange does not simply add an extra exposure and risk to other business exposures and risks. Instead, the amount of exposure and risk depends crucially on the way exchange rates and other financial prices are connected. For example, effects on investors in foreign countries when exchange rates change depend on whether asset values measured in foreign currency move in the same direction as the exchange rate, thereby reinforcing each other, or in opposite directions, thereby offsetting each other. Only by studying international finance can a manager understand matters such as these. International finance is not just finance with an extra cause of uncer tainty. It is a legitimate subject of its own, with its own risks and ways of managing them.

There are other reasons to study international finance beyond learning how exchange rates affect asset prices, profits and other effects described above. Because of the integration of financial markets, events in distant lands, whether they involve changes in the prices of oil and gold, election results, the outbreak of war, or the establishment of peace, have effects that instantly reverberate around the Earth. The consequences of events in the stock markets and interest rates of one country immediately show up around the globe, which has become an increasingly integrated and interdependent financial environment. The links between money and capital markets have become so close as to make it futile to concentrate on any individual part.

In this book we are concerned with the problems faced by any country or any firm whose performance is affected by developments in the international environment. Our analysis is relevant to more than the newly emerging industrial economies such as China and India that have grown through exports, or the giant multinational corporations (MNCs) that have received so much attention in the media for the power that they wield. It is also relevant to the multitude of companies that have explored international opportunities by forming joint ventures outside their own borders. Indeed, it is just as valid for countries and companies with a predominantly domestic focus that happen to export a little of their output or to buy inputs from abroad. Even countries and companies that are domestically focused but compete with firms producing abroad and selling in their local markets are affected by international developments. For example, Chinese auto-part or appliance manufacturers with no overseas sales will find home country sales and profit margins affected by exchange rates which influence the home currency prices of imported auto parts and appliances: an appreciation of the Chinese currency lowers prices of products imported into China. Similarly, bond investors holding their own government’s bonds, denominated in their own currency, and spending all their money at home, are affected by changes in exchange rates if exchange rates prompt changes in interest rates. Specifically, if governments increase interest rates to defend their currencies when their currencies fall in value on the foreign exchange markets, holders of domestic bonds will find their assets falling in value along with their home currencies: bond prices fall when interest rates increase. It is difficult to think of any firm or country that is not affected in some way or other by the international financial environment. Inflation, jobs, economic growth rates, bond and stock prices, oil and food prices, government revenues and other important financial variables are all tied to exchange rates and other developments in the increasingly integrated, global financial environment.

THE GROWING IMPORTANCE OF INTERNATIONAL FINANCE

The international flows of goods, services and capital that are the source of supply of and demand for currencies, and hence essential to the subject of international finance, are also fundamental to our wellbeing. A strong currency, for example, ceteris paribus, improves a country’s standard of living: the country’s currency buys more in world markets. Not only does a strong currency allow citizens to buy more imports; they can also buy more domestically produced products that are internationally traded. This is because a country’s citizens have to compete with foreigners for their own country’s internationally tradable products. The gain in standard of living from a rising currency is also evident when living standards are compared between nations. International rankings of living standards require conversions of local-currency incomes into a common measure, usually the US dollar. Ceteris paribus, a rising currency moves a country up the standard of living ladder by making local currency incomes worth more US dollars.

Citizens also gain from the efficient global allocation of capital: when capital is allocated to its best uses on a global scale overa...

Table of contents

• Contents
• Illustrations
• About the author
• Preface
• Part I International financial markets and environment
• Part II International financial management
• Glossary
• Index