International Economics

Question 1

Forward exchange contracts

Answer 1

Forward exchange contracts are agreements to exchange commodities in the future at an exchange rate set at the present.

Question 2

effects of change in currency exchange rates

Answer 2

The effects of change in currency exchange rates on an outstanding account balance (e.g., accounts payable) should be recognized as a gain or loss for the period.

Question 3

foreign currency forward exchange contract

Answer 3

A foreign currency forward exchange contract establishes a legal obligation to exchange currencies.

Question 4

Exchange rate risk

Answer 4

The risk of loss because of fluctuations in the relative value of foreign currencies
-derives from changes in currency exchange rates that alter the value of future transactions

Question 5

Political risk

Answer 5

Political risk is the risk related to actions by a foreign government, such as enacting legislation that prevents the repatriation of a foreign subsidiary’s profits or seizing a firm’s assets. Purchasing or selling futures contracts is designed to hedge transaction risks relating to foreign exchange rates.

Question 6

A put is an option that gives its owner the right to

Answer 6

A put is an option that gives its owner the right to sell a specific security at fixed conditions of price and time. A put option is a contract that gives the owner the right, but not the obligation, to sell a specified amount of an underlying asset (e.g., security) at a specified price within a specified time.

Question 7

international transfer pricing

Answer 7

I. Firms with operations in multiple nations can manipulate earnings through transfer pricing.
II. The transfer price preferred by a foreign subsidiary manager may be different than the transfer price that maximizes consolidated profits.

Question 8

transfer pricing

Answer 8

The determination of the amounts at which transactions between affiliated entities will be recorded.

Question 9

import quota

Answer 9

An import quota will restrict the quantity of a commodity that can be brought into the country from foreign providers.

This limitation on foreign quantity will enable domestic suppliers to sell more of the commodity produced domestically and at a higher price.

Question 10

Freely fluctuating exchange rates

Answer 10

They automatically correct a lack of equilibrium in the balance of payments.

Question 11

What is the effect when a foreign competitor’s currency becomes weaker compared to the U.S. dollar?

Answer 11

When a foreign currency becomes weaker compared to the U.S. dollar (or the dollar becomes stronger compared to the foreign currency), the U.S. dollar will exchange for more units of the foreign currency. As a result, dollars will buy more of the foreign competitor’s goods, giving the foreign company an advantage, not a disadvantage, in the U.S. market.

Question 12

World Bank

Answer 12

The World Bank was established to promote general world‐wide economic development.
-makes loans to developing countries.

Question 13

International Monetary Fund

Answer 13

The IMF maintains order in the international monetary system by providing funds to countries in financial crisis, including currency crisis, banking crisis, or debt crisis.

Question 14

General Agreement on Tariffs and Trade (GATT)

Answer 14

GATT has as its primary purposes the liberalizing and encouraging international trade by eliminating tariffs, subsidies, import quotas, and other trade barriers, to harmonize intellectual property laws and to reduce transportation costs.

Question 15

Foreign direct investment

Answer 15

Foreign direct investment involves investments in non‐monetary assets (e.g., property, plant, equipment, etc.) in a foreign location.

Question 16

risk encountered when goods are outsourced to a foreign supplier and payment is denominated in the foreign supplier’s currency

Answer 16

Quality risk.
Security risk.
Currency exchange risk.

Question 17

mitigate risks associated with outsourcing

Answer 17

Including an arbitration clause in the contract with the foreign supplier would mitigate the risk associated with outsourcing by providing a predetermined mechanism for resolving differences between the buyer and the supplier (Statement II). Negotiating for payment to the foreign supplier to be made in the foreign currency would not mitigate the risk because it would subject the domestic buyer to foreign currency exchange risk, i.e., the risk that changes in the exchange rate between the currencies will increase the cost of acquiring goods (Statement I).

Question 18

If the dollar strengthens against a foreign currency, the dollar value of an investment denominated in the foreign currency will decline

Answer 18

True

Question 19

Globalization of capital markets

Answer 19

• facilitates investment portfolio diversification
• concerned with international transactions in financial securities.
• can lower the cost of capital for borrowers.
• reduced investment portfolio risk

Question 20

The value of international borrowing is greater than the value of international equity issues.

Answer 20

True

Question 21

The Eurodollar market

Answer 21

• provides short‐term commercial loans.

- Eurodollars are measured in U.S. dollars.

Question 22

Eurobonds

Answer 22

Eurobonds are not subject to extensive regulation like U.S. issued domestic bonds; therefore, they are less expensive to issue.

Question 23

dollar changes against the foreign currency

Answer 23

If the dollar strengthens against a foreign currency, an investment denominated in that currency would result in fewer dollars; if the dollar weakens against a foreign currency, borrowing in that currency would cost more dollars, as more dollars would be required to service and repay the debt.

Question 24

world‐wide output(GDP)

Answer 24

• World‐wide output is measured by summing the GDP of the world’s countries.
• The U.S. share of world‐wide output has decreased in the past 25 years.
• Over the past 30 years, Asian‐area countries have increased their share of world‐wide output.
• The U.S. share (percentage) of worldwide GDP (output) is approximately 25%. In 2012 the U.S. share of worldwide GDP was about 22%.
• Europe has had the greatest decline in share of worldwide output during this period

Question 25

Foreign licensing

Answer 25

Foreign licensing generally avoids trade barrier restrictions.
-Franchising is a form of licensing.

Question 26

advantage associated with the acquisition of a pre‐existing foreign entity

Answer 26

It may block competition from entering the foreign market in which the acquired entity operates.
Provides quicker entry into a market than developing a new entity in the foreign market.
Provides historical financial information that is useful to the acquiring entity.

Question 27

Government‐imposed trade barriers

Answer 27

Government‐imposed trade barriers may restrict either imports or exports (or both). While trade barriers are often thought of as restricting imports, governments also impose trade barriers to restrict exports. Export restrictions normally are imposed to protect technology or to preclude countries from receiving certain goods.

Question 28

A foreign subsidiary

Answer 28

A foreign subsidiary is most likely to give an entity greatest control over an international business activity. Since a parent entity has controlling ownership of a subsidiary, under normal circumstances, it has complete control of the activities of a subsidiary.

• Protection of proprietary information.
• Ability to coordinate activities of the subsidiary with other activities.
• Ability to maintain quality control.

Question 29

importing and exporting

Answer 29

I. Goods with a low value‐to‐weight ratio are less likely to be suitable for importing than goods with a high value‐to‐weight ratio.
II. In the exporting of goods, one may encounter import restrictions imposed by the country of destination.

Question 30

comparative advantage

Answer 30

The concept of comparative advantage in international business activity is based on differences in relative opportunity costs. Comparative advantage is the ability of one economic entity (nation) to produce a good or service at a lower opportunity cost than another entity (nation).

Question 31

international economic activity by a U.S. entity

Answer 31

Market diversification.
Resource acquisition.
Reduce production costs.

Question 32

accounts used by the U.S. to account for transactions and balances with other nations (i.e., those not in the U.S. balance of payments statement)

Answer 32

Current account.
Capital account.
Financial account.

Question 33

What is the effect when a foreign competitor’s currency becomes weaker compared to the U.S. dollar?

Answer 33

The foreign company will have an advantage in the U.S. market.

Question 34

common basis for establishing a transfer price between affiliated entities

Answer 34

Costs incurred by the selling affiliate.
Fair value based on the price in the market.
Price negotiated between affiliates.

Question 35

foreign franchising

Answer 35

Franchising typically provides greater quality control than does simple licensing.