Flashcards in Corporate Governance Deck (60):
What is Protectionism?
Any measure taken by a government to protect domestic producers.
What are Tariffs?
Taxes imposed on imported goods.
Forms of Protectionism
1. Tariffs 2. Import Quotas
Goals of Tariffs
Discourage consumption of foreign goods or raise revenue
What are Import quotas?
Fixed limits on different products.
What is a country's balance of payments?
The sum of all transactions between domestic and foreign individuals firms and governements.
What is an Embargo?
A total ban on some kinds of imports.
Results of import quotas and tariffs:
Domestic consumers pay higher prices and consume fewer goods.
But domestic producers are able to sell more goods and domestic consumers pay a subsidy to domestic producers.
What is domestic content rules?
A requirement that at least a portion of any imported product be constructed from parts manufactured in the importing nation
What is a Trigger Price?
An automatically imposed tariff barrier against unfairly cheap imports by levying a duty (tariff) on all imports below a set reference price
The prices that "triggers" the tariff.
What is Antidumping?
Rule that prevents foreign producers from dumping excess goods on the domestic market at less than cost to squeeze out competitors and gain control of the market.
What is Repatriation?
The process of transferring money earned in a foreign location back to the domestic location.
What are Export Subsidies?
Payments by the government to producers in certain industries in an attempt to increase exports.
Three basic arguments in favor of protectionism
1. Reducing imports protects domestic jobs.
2. Certain industries are essential to national security.
3. Infant industries need protection in the early statges of development.
What is crowdfunding?
The funding of a project by raising contributions from a large number of people.
What is the Sustainability Movement?
Movement built upon the goal of creating a higher standard of living for the present and the future with a focus on reducing waste energy use and distribution costs and protecting the environment.
When the demand for a country's merchandise capital assets and financial instruments rises: This causes
Demand for its currency rises
What is the Exchange Rate?
The price of one country's currency in terms of another country's currency.
What are the exchange rate systems?
Fixed exchange rate system
Freely floating exchange rate system
Managed float exchange rate system
Fixed exchanged rate system
The value of a country's currency in relation to another country's currency is either fixed or allowed to fluctuate only w/in a very narrow range.
Disadvantage of Fixed Exchange Rate system
A government can manipulate the value of its currency.
A Significant Advantage of Fixed Exchange Rate System
A fixed exchange rate is that it makes for a high degree of predictability in international trade because the element of uncertainty about gains and losses on exchange rate fluctuations is eliminated.
Freely Floating Exchange Rate System
The government steps aside and allows exchange rates to be determined entirely by the market forces of supply and demand.
An advantage of Freely Floating Exchange Rate System
It tends to automatically correct any disequilibrium in the balance of payments.
A disadvantage of Freely Floating Exchange Rate System
Makes a country vulnerable to economic conditions in other countries.
Managed Float Exchange Rate System
The government allows market forces to determine exchange rates until they move too far in one direction or another.
The government will then intervene to maintain the currency within the broad range considered appropriate.
An Advantage of Managed Float Exchange
It has the market-response nature of a freely floating system while still allowing for government intervention when necessary.
What is the slope of the demand curve for foreign currency? Why?
Downward sloping, because when that currency becomes cheaper, goods and services denominated in that currency become more affordable and domestic consumers need more of that currency.
What is the Supply curve slope of foreign currency? Why?
Upward sloping, because when that currency becomes more expensive, domestic goods and services become more affordable to users of the foreign currency, leading them to inject more of their currency into the domestic market.
Currency is said to have Appreciated when?
When the currency can be exchanged for more units of another currency.
The currency that appreciates is gaining power and is becoming more valuable (expensive).
Currency is said to have Depreciated when
The currency is exchanged for less units of another currency.
The factors that affect currency exchange rates are
1. Trade-related Factors
a. Relative inflation rates
b. Relative income levels
c. Government intervention (trade restrictions)
2. Financial Factors
a. Relative interest rates
b. Ease of capital flow
What is the relative inflation rate?
When the inflation rate of inflation in a goven country rises relative to the rates of other countries, the products of that country become relatively expensive and the demand for that country's currency falls.
What are Relative Income Levels?
Citizens with higher incomes look for new consumption opportunities in other countries, driving up the demand for those currencies and shifting the demand curve to the right.
What is government intervention?
Actions by national governments such as trade barriers and currency restrictions. These actions complicate the process of exchange rate determination.
What is the Ease of Capital Flow?
If a country with high real interest rates loosens restrictions against the cross-border movement of capital, the demand for the currency will rise as investors seek higher returns.
This factor has become by far the most important of the five factors listed.
What is the spot rate?
The number of units of a foreign currency that can be received today in exchange for a single unit of the domestic currency.
What is the forward rate?
The number of units of a foreign currency that can be received in exchange for a single unit of the domestic currency at some definite date in the future.
What is trading at a Forward Premium?
If the domestic currency fetches more units of a foreign currency in the forward market than in the spot market.
What is the Forward Discount?
If the domestic currency fetches fewer units of a foreign currency in the forward market than in the spot market.
What is the Settlement Date? What is the Settlement Amount?
The future date when the transaction will occur. The agreed-upon amount of the transaction.
What are the types of exposure to exchange rate risk?
a. Transaction Exposure
b. Economic Exposure
c. Translation Exposure
What is the Transaction Exposure re: Exchange rate risk?
The exposure to fluctuations in exchange rates between the date a transaction is entered into and the settlement date.
What is the Economic Exposure re: exchange rate risk?
The exposure to fluctuations in exchange rates resulting from overall economic conditions.
What is the Translation Exposure re: exchange rate risk?
The exposure to fluctuations in exchange rates between the date a transaction is entered into and the date that financial statements denominated in another currency must be reported.
The most common tools for addressing transaction exposure:
1. Money Market Hedges
2. Forward Contracts
3. Futures Contracts
4. Currency Options
5. Economic Exposure
What is a money market hedge?
a firm with a payable denominated in a foreign currency can buy a money market instrument demoninated in that currency that is timed to mature when the payable is due. Exchange rate fluctuations between the transaction date and the settlement date are avoided.
With a receivable denominated in a foreign currency can borrow the amount and convert it to its domestic currency now then pay off the foreign loan when the receivable is collected.
What is a Forward Contract?
The bank guarantees that it will make available to the firm a given quantity of a certain currency at a definite rate at some point in the future.
What is a premium?
The price charged by a bank for the guarantee of a forward contract.
What is a Futures Contract?
Essentially commodities that are traded on an exchange making them available to more parties. Underwritten by a clearing house removing all risk of nonperformance by either party.
What is a currency option?
Similar to a futures contract except unlike a futures contract this is not a binding contract. Option is only exercised if the party purchasing the option chooses.
What are the types of currency options?
What is a Call option?
Gives the holder the right to buy a specified amount of currency at a specified price at a predetermined date in the future.
This is one of the many tools available to hedge payables.
What is a Put option?
Gives the holder the right to sell a specified amount of currency at a specified price at a predetermined date in the future.
This is one of the many tools available to hedge receivables.
What is Economic exposure?
The exposure to fluctuations in exchange rates resulting from overall economic conditions.
Ways to Estimate Economic Exposure?
1. Sensitivity of earnings
2. Sensitivity of cash flows
Sensitivity of Earnings
The entity prepares a pro forma income statement for operations in each country.
Sensitivity of cash flows
The entity performs a regression analysis weighting each net cash flow by the prevalence of that currency in the firm's portfolio.
What is Translation Exposure re: Hedging due to Transaction exposure?
The risk that a foreign subsidiary's balance sheet items and result of operations denominated in a currency different from the parent's consolidated financial statements currency will change in value as a result of exchange rate fluctuations.