International Financial Management Assignment Solution, Semester 1

This document presents a comprehensive solution to an International Financial Management assignment, addressing key concepts such as exchange rates, purchasing power parity (PPP), and triangular arbitrage. The solution begins with calculations of new exchange rates following changes in currency values and then proceeds to analyze the relationship between exchange rates. The assignment further explores inflation rates in different currency areas and their impact on real exchange rates, including calculations and implications. The document also delves into the effects of government bonds and interest rates in different countries, considering factors like exchange rate variations and inflation. Finally, it examines the risks associated with exchange rate fluctuations in international finance, offering insights into how to manage and mitigate these risks. The solution provides detailed explanations and calculations to support the answers, making it a valuable resource for students studying international finance.

International Financial Management
Name of the Student:
Name of the University:
Authors Note:

Contents
International financial management................................................................................................3
Answer 1..........................................................................................................................................3
Answer 2..........................................................................................................................................5
Answer 3..........................................................................................................................................9
Answer 4........................................................................................................................................10
Answer 5........................................................................................................................................11
Answer 6........................................................................................................................................18
References......................................................................................................................................21

International financial management
Answer 1
Part A:
Current exchange rate
EUR USD 1.1
Increase in value of US$ by 2%
New exchange rate would be as following:
EUR USD (1.1 x 100/102) 1.0784
As this is seen that the increase in the value of the USD by 2% and hence the new exchange rate
would be considered as the EUR USD 1.0784. Which is calculated by applying the formula
presented above in the table (Agarwal, Ruenzi and Weigert, 2017).
Part B
Here, the table is presenting the calculations regarding GBP EUR as below:
EURUSD 1.1043
GBPUSD 1.2970
GBPEUR (1.297/1.1043) 1.1745
So, the rate regarding GBP EUR would be considered as 1.1745 till four decimal points and here
1GBP is equal to EUR 1.1745
Part C
Here the data and information related to exchange rates between EURUSD and GBPUSD is
presented for calculations of exchange rate regarding GBPEUR. There is not any nexus exchange
rate which is rendered for GBPEUR therefore, the value of GBP with respect to US$ has been

considered along with the value of US$ in respect to EUR (Bekaert and Hodrick, 2017). In
accordance with it, the exchange rate of GBREUR can be calculated with the help of value
regarding US$ against EUR and value regarding US$ against GBP with their comparison. Many
experts are using this technique for calculation of exchange rates between two countries and it is
the most popular method for this, helpful when there is no any direct exchange rate is presented
for two currencies. This case is providing as exchange rates between US$ and GBP, EUR and
US$. Even, the exchange rates between GBP and EUR is not rendered so the comparison of
these values regarding US$ against GBP and also against EUR so on the exchange rate of
GBPEUR can be calculated.
Triangular arbitrage is referred as a profit calculated from arbitration of various currencies due to
the variations in three kind of currencies. In the presented case the value regarding US$ to EUR
and US$ to GBP can be applied for determined the earnings from triangular arbitrage. For an
instance if at present US$ to purchase EUR has been invested and after some time received as
GBP in return of EUR. In this situation it rendered a maximum amount of profit to any investor
will be named as triangular arbitrage (Brooke, 2016). There is a complete understanding with
differences of exchange rate and capability of predicting the variations in different currencies
rendered as golden opportunity to investors to make surplus through arbitration.

Answer 2
Part A:
In accordance with the purchasing power parity (PPP) postulate the exchange rates among two
currencies is having same value to purchasing power of respective currencies. As per the
neoclassical economical postulate of PPP it can be conclude that the exchange rates variations is
having nexus relation purchasing power of that respective currencies (Carr and Wu, 2016).
Hereunder the exchange rates regarding EURUSD in year 2017 of January month and December
month are rendered in table form:
Date Exchange rate
In January, 2017 EURUSD 1.100
In December 2017 EURUSD 1.144
So, the exchange rate was 1.100 US$ for each EURO in January, 2017 nevertheless, at the end of
year 2017 in month of December it has declined to 1.144 US$ for each EURO. Therefore, it can
be resulted that the inflation rate was remarkably higher in US$ currency ad area compare to
inflation rate in EURO currency of year 2017. There as much as the higher the value of inflation
rate it also having same depreciation rate and it’s resultant the declining exchange rates between
US$ and euro (Chance and Brooks, 2015).
This is seen that the company exchange rate in January was considered to be lower as compared
to the exchange to the other exchange rate and hence this affects the economic condition of the
company as this increases the performance of the company to achieve maximum profitability.
The following formula has been applied to calculate by how much the inflation rate was higher
in US$ currency area:
{(1.144 – 1.100) X 100} / 1.100 = 4%
So, the inflation rate in US$ currency area was greater by 4% in comparison to the inflation rate
in euro currency area.

Part B
In any case the inflation rate in the US$ currency area was 3% more than the inflation rate of
euro currency area then the US currency shall be declined at 3% more than the rate of
depreciation of EURO (Christoffersen, et. al., 2017). There is following exchange rates between
the US$ and EURO
EURUSD (1.100 / 1 x 97%) =1.1340
As resultant of increasing inflation rate in US$ area the US$ value declined against EURO. So,
the exchange rate of EURUSD will declined to 1.1340 till the finishing of year 2017.
Part C
There are various initiations related to changes in real exchange rates respect to one currency.
With the aim of rendering an important knowledge about this matter that is presented in
document, a hasty discussion related to initiations of real exchange rates of one currency was
presented.
There are many suggestions for changes in real exchange rates of currency macroeconomic
elements in a country.
 The values regarding imported goods and services: the values of goods and services that
are imported vary because of the variations in exchange rate of currency. If exchange rate
declines that it would be have negative impact on that particular country. Even it can be
effective for any country if the exchange rates having a positive variance with it
(Cremers, et. al., 2016). So, the increment in exchange rate will also decline the values of
imported goods and services. On the other side, if the exchange rate declines then it raises
the values of imported goods and services.
 Variations in commodity price: these are the prices that are impacted with currency of the
respected commodity prices. For an instance the commodities that are priced in US$ in
United Kingdom will enhance with depreciation in the value of pound sterling. An
increment in price of pound sterling then it will decline the prices of such commodities.
This is seen that as the variance occur the product also gets costlier with the increase in
the price of products also affects the consumers behavior where they are not able to
capture the products that are desired by them.

 Effect on export enhancement: the enhancement in exported commodities would be
remarkably effected to subsequent to variations in real exchange rate of currency. For
instance the more exchange rate will renders more difficulties to sale its products in
foreign market. So, the export enhancement would be negatively affected f exchange rate
having an increment.
 Impact on unemployment: In every country the exchange rate is also affected the
unemployment. If the exchange rate is getting higher then it will affect the export
enhancement and due to this the demand will also get declination in country (Davies, Kat
and Lu, 2016). Resultant it declines the production and due to this the unemployment will
increase. Therefore, the unemployment in any country can also be affected with the
variations in real exchange rate related to a currency.
 Stimulation of demand: In any country there is a subsequent declination in currency and
its value can be implied to encouraging the demand in economy. As its resultant the
production if increased in economy then it would become higher the employment rate
(Yin, 2016).
So, there are many intimations that are made for real changes in exchange rates of currency that
can be understood from above consultation.

Part D
According to the document the exchange rate of EURUSD in January month and December
month in year 2017 is as follows:
Date Exchange rate
In January, 2017 EURUSD 1.100
In December 2017 EURUSD 1.144
So, it has formerly described in former part of case that more depreciation in the US currency has
outcomes as declination in exchange rate of EUSRUSD. The inflation rate in the US$ is more
than the EURO area (Deresky, 2017). According to the calculations (rendered in part (a) of this
question) the inflation rate is 4% more than the US$ area as compared rate of inflation in EURO.
Therefore, it is clear that demand for the money market in the US is much more than its supply.
So, the interest rate is more than that in US is more than that in euro area.
Part E
The government bonds are referred as risk free securities for investors because it renders as
stable rate of interest over a fixed period of time without any variation. The investors are sure
about their fix amount of interest that is earned by them and principal amount after the ending of
tenure of bond. Because of these are risk free securities of government then there is no variations
in its interest rates related to two countries (Gitman, Juchau and Flanagan, 2015). In provided
case there is no variation between two government bonds of different countries in area of EURO
because these both are risk free securities with a fixed rate of interest to investors.
There are some variations due to changes in exchange rate and inflation rate of two countries. In
the given case the exchange rate of EURUSD 1.100 in January month year 2017, it at the end of
year diminishes by EURUSD 1.44 in year 2017. Therefore, the variations in exchange rates will
definitely affect the values of two currencies which are also having impact on risk free interest
rate in two countries. It refers as the risk free return is only rate of interest that is rendered by
government of two countries on government bonds. So, the variation between the government

bonds interest rates which are determined to cost of capital in countries which can also be
considered as inflation rate.
Answer 3
The unpredictability is the most analytical factor in economy and its environment. In every
economy there are various factors that makes it promising for administration of country to
stabilize various factors. There are in economy ad in business world it is not possible to abolish
the uncertainty but with the help of many experts it can be reduce, manage factors of
environment. For conducting activities on international level it is important to determine the risk
associated in it so effective actions can be taken for reduce these uncertainties. There is
variations in exchange rate is very big risk for international trade and business and also for
international finance (Grundy and Verwijmeren, 2018). It is necessary to determine the risk
associated with variations of exchange rate in economy to take elective and proper actions to
diminish the risk and its adverse impact on economy.
Exchange rate variations is the changes in exchange rate that having impact on numerous
macroeconomic elements in economy of country. Variations in exchange rate. Having many
implications on the complete growth and enhancement of an economy. The variations in
exchange rate of domestic currency and other currencies is having noteworthy impact on
economy (Titman and Martin, 2014). The increment in exchange rate will having the adverse
impact on cost of imported goods and services which will better the balance of payment. The
increment in exchange rate is helping the increment in foreign currency reserve. If the
commodities are denominated in foreign currency will be decreasing so demand for that product
will be higher in the economy. On the other side there is an increment in exchange rate and due
to this fact that increment in exchange rate generally reduce the export of country as the prices of
goods increased. As resultants the demand of goods in international market diminishes and it
declines production. As well as the declination in production it also decrease the employment in
country and negatively affect the country (Kelly, Lustig and Van Nieuwerburgh, 2016). But,
sustainable exchange rate leads to a country towards balance of economic enhancement and
progress by taking necessary decisions in right direction. On the other hand the variations in
exchange rate is also having an adverse impact on country and it does not allow a country to
prepare policies and effective actions that can be applied for enhancement and growth of
economy.

Answer 4
There is globalization that allows companies of various countries to establish their operating
units in other countries. Therefore, the term “multi-national companies” has been identified to
companies and entities which are having its operational units in other countries. Multinational
countries (MNCs). This is seen that the economic condition of the company are considered to be
one of the element which made them suggest the exchange rate of the country (Kim, et. al,
2016). This is considered as one of the situation where the country has to find the way to tackle
the market situation and to find the way so that the increasing exchange rate could be handled
and the risk of the decrease in the economic condition of the company can be handled.

Answer 5
Part A
Maturity prices 55p
Strike price 67 pence
Add: Premium on call 4.5 pence
Total pay out 71.5 pence
Less: Maturity price 55 pence
Net loss 16.50 pence
Maturity prices 60p
Strike price 67 pence
Add: Premium on call 4.5 pence
Total pay out 71.5 pence
Less: Maturity price 60 pence
Net loss 11.50
pence
Maturity prices 65p
Strike price 67 pence
Add: Premium on call 4.5 pence
Total pay out 71.5 pence
Less: Maturity price 65 pence

Net loss 6.50
Pence
Maturity prices 70p
Strike price 67 pence
Add: Premium on call 4.5 pence
Total pay out 71.5 pence
Less: Maturity price 70 pence
Net loss 1.50
Pence
Maturity prices 75p
Strike price 67 pence
Add: Premium on
call
4.5 pence
Total pay out 71.5 pence
Less: Maturity
price
75 pence
Net gain (3.50) pence