Forecasting Long-Term Exchange Rate Movements. Your firm sees a tremendous business opportunity in Country “HI” (“HI” short for “High Inflation”). Because of high import barriers, the only way to capitalize on this opportunity is to build a factory in country HI, after which you estimate it will take 2 to 3 years for the operations to become cash-positive. The factory will have to import most of its raw materials but plans to sell all of the production into the local market. The firm is new to the international business world. While they know exchange, rates are something they need to be concerned about, they have no clue how to factor exchange rate concerns into this investment decision. You are asked to help.

Your preliminary research shows consistently high (10%+) inflation in HI with no signs of reducing. HI’s economy is largely commodity based and export focused, meaning many of the basic goods must be imported. HI lets the Low (the “Low” is the currency in HI), float freely in the foreign exchange market.

In general terms, how would you expect the exchange rate of the HI Low to move over the next 3 to 5 years? On what do you base this rough estimate?

Given this, what are the exchange rate specific concerns that you should highlight to your firm for their consideration before making this investment?