Ask Question, Ask an Expert

+61-413 786 465

info@mywordsolution.com

Ask Corporate Finance Expert

According to those who are in favor of borrowing, the MNCs can achieve lower financing costs and hence their competing ability is improved. But according to the international fisher effect, "the percentage change in the spot exchange rate of a currency in terms of another will, on average, equal to the differential of interest rates between the two countries". This is expressed in the below equation (Carey & Essayyad, 1990). 

Change in spot rate of foreign currency =

(1+ interest rate in the home country) – 1 /(1 + interest rate in the foreign country)

                Suppose a dollar debt can be obtained at 10% and a pound debt can be obtained at a cheaper 5%, according to the international fisher effect, the interest rate differences will be soon converted into appreciation on pound and depreciation on dollar, which implies that pounds are not cheap to borrow just because the interest rate on pound is lower comparatively. According to the international fisher effect, exchange rate in due course will balance the interest rate differentials.

Though international fisher effect has been proved to not work in reality by many, there are also evidences wherein it holds. For example, a study by Utami & Inanga (2009) has proved that international fisher effect holds for Indonesia. Hence this theory cannot be held aside. Hence the argument of those in favor of borrowing cannot hold when international fisher effect holds. The lower financing costs will be soon converted into exchange rate appreciation and depreciation, thus making both costs equal or at least approximately equal ultimately.

In addition, the international fisher effect has been known to hold at best in the long term compared to the short term. According to Bartram et al (2005), there is existence of foreign exchange rate risk because both PPP theory and international fisher effect holds in the long term much better. There are many other studies and research papers that prove the same as well. The foreign borrowing will be utilized especially by the MNCs for long term purposes. Hence it is again proved that the low cost of financing will be soon compensated through the changes in the respective exchange rates.

Thus the attractiveness of lower costs of financing will increase the foreign exposure of multinational companies, thus increasing their risk as well. With increased risk, the company would have to take precautionary measures such as hedging through various derivative instruments. This just increases the cost incurred by the firm and overall, with higher costs, the company's competitive ability is lowered in the global as well as domestic level thus leading to high failure chances for the business.       

 Thus I strongly believe that Multinational Corporations increase risk when borrowing foreign currencies. 

Corporate Finance, Finance

  • Category:- Corporate Finance
  • Reference No.:- M9509814

Have any Question?


Related Questions in Corporate Finance

Interest swap valueabc bank has agreed to receive 3-month

Interest swap value ABC bank has agreed to receive 3-month LIBOR and pay 8% per annum on a notional principal of $100 million. The swap has a remaining life of 11 months. The LIBOR spot rates for 2-month, 5-month, 8-mont ...

Question - business performanceassess how business

Question - Business Performance Assess how Business Performance is measured, financially and non-financially, in your organization* and analyze its business performance. Organization is InterContinental Hotels Group (IHG ...

Bank financial management assignment -the question - the

BANK FINANCIAL MANAGEMENT ASSIGNMENT - The Question - The Balance Sheet for Commercial Banking Company of Australia Limited (CBC) as at 28 February 2018 is shown below as Table 1. CBC is an Authorised Depository Institut ...

Principles of financial investment assignment - the market

Principles of Financial Investment Assignment - "The market can solve all of society's needs." Discuss the above statement with particular reference to the financial markets. Your essay should be approximately 2,000 word ...

Descriptionstudents are required to study undertake

Description: Students are required to study, undertake research, analyse and conduct academic work within the areas of corporate finance. The assignment should examine the main issues, including underlying theories, impl ...

Q1 delta hedgingon sept 30th 2011 exxon mobil xom stock was

Q1 (Delta Hedging) On Sept 30th, 2011, Exxon Mobil (XOM) stock was traded at $72.63 while the December XOM put option with $75 exercise price is traded at $5.00 and the December XOM call option with $70 exercise price is ...

Business finance assignment -the main objective of this

BUSINESS FINANCE ASSIGNMENT - The main objective of this assignment is to emphasis the importance of consideration time value of money in financial management decisions. It will cover time value of money, investment valu ...

Assignment -task requirements you have been randomly

Assignment - Task requirements: You have been randomly assigned an Australian publicly listed company (refer to the separate excel spreadsheet provided to identify your company). Using the financial reports for your comp ...

Assignment -are you able to produce a report as per the

Assignment - Are you able to produce a Report as per the given requirements please? Chosen company is Origin Energy (ORG). UAE The 2017 Annual Report. Instructions for the report - AASB 9 (and IFRS 9) Financial Instrumen ...

Q1 delta hedgingon sept 30th 2011 exxon mobil xom stock was

Q1 (Delta Hedging) On Sept 30th, 2011, Exxon Mobil (XOM) stock was traded at $72.63 while the December XOM put option with $75 exercise price is traded at $5.00 and the December XOM call option with $70 exercise price is ...

  • 4,153,160 Questions Asked
  • 13,132 Experts
  • 2,558,936 Questions Answered

Ask Experts for help!!

Looking for Assignment Help?

Start excelling in your Courses, Get help with Assignment

Write us your full requirement for evaluation and you will receive response within 20 minutes turnaround time.

Ask Now Help with Problems, Get a Best Answer

Why might a bank avoid the use of interest rate swaps even

Why might a bank avoid the use of interest rate swaps, even when the institution is exposed to significant interest rate

Describe the difference between zero coupon bonds and

Describe the difference between zero coupon bonds and coupon bonds. Under what conditions will a coupon bond sell at a p

Compute the present value of an annuity of 880 per year

Compute the present value of an annuity of $ 880 per year for 16 years, given a discount rate of 6 percent per annum. As

Compute the present value of an 1150 payment made in ten

Compute the present value of an $1,150 payment made in ten years when the discount rate is 12 percent. (Do not round int

Compute the present value of an annuity of 699 per year

Compute the present value of an annuity of $ 699 per year for 19 years, given a discount rate of 6 percent per annum. As