CHAPTER1GLOBAHZATIOM^ANDTHEMULTINATIONALFIRM

ANSWERS&SOLUTIONSTOEND-c^CHAPTERQUESTIONSANDPROBLEMS

QUESTIONS

1.Whyisitimportanttostudyinternationalfinancialmanagement?

Answer:Wearenowlivinginaworldwhereallthem句oreconomicfunctions,i.e.,consumption,

production,andinvestment,arehighlyglobalized.Itisthusessentialforfinancialmanagersto

fullyunderstandvitalinternationaldimensionsoffinancialmanagement.Thisglobalshiftisin

markedcontrasttoasituationthatexistedwhentheauthorsofthisbookwerelearningfinance

sometwentyyearsago.Atthattime,mostprofessorscustomarily(andsafely,tosomeextent)

ignoredinternationalaspectsoffinance.Thismodeofoperationhasbecomeuntenablesince

then.

2.Howisinternationalfinancialmanagementdifferentfromdomesticfinancialmanagement?

Answer:TherearethreernR^lordimensionsthatsetapaNinternationalfinancefromdomestic

finance.Theyare:

1.foreignexchangeandpoliticalrisks,

2.marketimperfections,and

3.expandedoppo叫unityset.

3.Discussthemajortrendsthathaveprevailedininternationalbusinessduringthelasttwo

decades.

Answer:The1990sbroughtarapidintegrationofinternationalcapitalandfinancialmarkets.

Impetusforglobalizedfinancialmarketsinitiallycamefromthegovernmentsofm剖orcountries

thathadbeguntoderegulatetheirforeignexchangeandcapitalmarkets.Theeconomic

integrationandglobalizationthatbeganintheeightiesispickingupspeedinthe1990svia

privatization.Privatizationistheprocessbywhichacountrydivestsitselfoftheownershipand

operationofabusinessventurebyturningitovertothefreemarketsystem.Tradeliberalization

andeconomicintegrationcontinuedtoproceedatboththeregionalandgloballevels.InEurope,

C2012byMcGJAv-IIillEducation.ThisispR)prietarymaterialsolelyforaulhorizedinslructoruse.NotauthorizedfbrsaleordisITIburioninany

manner.Tnisdocumentmaynotbeco'pied,scanned,duplicated,fbrwanl創(chuàng),distributed,orpostedcnawebsite,inwholeor

manyEUmembercountrieshaveadoptedthecommoncurrency,euro,thathasbecomethe

secondglobalcurrencyaftertheU.S.dollar.

4.Howisacountryseconomicwell-beingenhancedthroughfreeinternationaltradeingoods

andservices?

Answer:AccordingtoDavidRicardo,withfreeinternationaltrade,itismutuallybeneficialfor

twocountriestoeachspecializeintheproductionofthegoodsthatitcanproducerelatively

mostefficientlyandthentradethosegoods.Bydoingso,thetwocountriescanincreasetheir

combinedproduction,whichallowsbothcountriestoconsumemoreofbothgoods.This

argumentremainsvalidevenifacount叩canproducebothgoodsmoreefficientlythantheother

count叩.Internationaltradeisnotazero-sum*gameinwhichonecountrybenefitsatthe

expenseofanothercounti叩.Rather,internationaltradecouldbeanincreasing-sum*gameat

whichallplayersbecomewinners.

5.Whatconsiderationsmightlimittheextenttowhichthetheo叩ofcomparativeadvantageis

realistic?

Answer:Thetheoryofcomparativeadvantagewasoriginallyadvancedbythenineteenth

centuryeconomistDavidRicardoasanexplanationforwhynationstradewithoneanother.

Thetheoryclaimsthateconomicwell-beingisenhancedifeachcountryscitizensproducewhat

theyhaveacomparativeadvantageinproducingrelativetothecitizensofothercountries,and

thentradeproducts.Underlyingthetheonparetheassumptionsoffreetradebetweennations

andthatthefactorsofproduction(land,buildings,labor,technology,andcapital)are

relatively

immobile.Totheextentthattheseassumptionsdonothold,thetheoryofcomparative

advantagemaylnotrealisticallydescribeinternationaltrade.

6.Whataremultinationalcorporations(MNCs)andwhateconomicrolesdotheyplay?

Answer:Amultinationalcorporation(MNC)canbedefinedasabusinessfirmincorporatedin

onecountrythathasproductionandsalesoperationsinseveralothercountries.Indeed,some

MNCshaveoperationsindozensofdifferentcountries.MNCsobtainfinancingfromm剖or

moneycentersaroundtheworldinmanydifferentcurrenciestofinancetheiroperations.Global

operationsforcethetreasure、。仟匕etoestablishinternationalbankingretationshj^s,toplace

C2012byEducalion.Tinsispn)prietarymaterialsolelyforaulhorizedinslructoruse.NO!authorizedforsaleordislTIburioninany

manner.Tnisdocumentmaynotbeco'pied,scanned,duplicated,fbrwaRl創(chuàng),distributed,orpostedcnawebste.inwholeor

short-termfundsinseveralcurrencydenominations,andtoeffectivelymanageforeign

exchangerisk.

7.RossPerot,aformerPresidentialcandidateoftheReformParty,whichisathirdpolitical

painjyintheUnitedStates,hadstronglyobjectedtothecreationoftheNo內(nèi)hAmericanTrade

Agreement(NAFTA),whichnonethelesswasinauguratedin1994.Perotfearedthelossof

AmericanjobstoMexicowhereitismuchcheapertohireworkers.Whatarethemeritsand

demeritsofPerot'spositiononNAFTA?Consideringtherecenteconomicdevelopmentsin

NorthAmerica,howwouldyouassessPerot'spositiononNAFTA?

Answer:SincetheinceptionofNAFTA,manyAmericancompaniesindeedhaveinvested

heavilyinMexico,sometimesrelocatingproductionfromtheUnitedStatestoMexico.Although

thismighthavetemporarilycausedunemploymentofsomeAmericanworkers,theywere

eventuallyrehiredbyotherindustriesoftenforhigherwages.Atthesametime,Mexicohas

beenexperiencingamnL|oreconomicboom.ItseemsclearthatbothMexicoandtheU.S.have

benefitedfromNAFTA.Perot'sconcernappearstohavebeenillfounded.

8.In1995,aworkinggroupofFrenchchiefexecutiveofficerswassetupbytheConfederation

ofFrenchIndustry(CNPF)andtheFrenchAssociationofPrivateCompanies(AFEP)tostudy

theFrenchcorporategovernancestructure.Thegroupreportedthefollowing,amongother

things:"TheboardofdirectorsshouldnotsimplyaimatmaximizingsharevaluesasintheU.K.

andtheU.S.Rather,itsgoalshouldbetoservethecompany,whoseinterestsshouldbeclearly

distinguishedfromthoseofitsshareholders,employees,creditors,suppliersandclientsbut

stillequatedwiththeirgeneralcommoninterest,whichistosafeguardtheprosperityand

continuity

ofthecompany”.Evaluatetheaboverecommendationoftheworkinggroup.

Answer:TherecommendatbnsoftheFrenchworkinggroupclearlyshowthatshareholder

wealthmaximizationisnotauniversallyacceptedgoalofcorporatemanagement,especially

outsidetheUnitedStatesandpossiblyafewotherAnglo-SaxoncountriesincludingtheUnited

KingdomandCanada.Tosomeextent,thismayreflectthefactthatshareownershipisnotwide

spreadinmostothercountries.InFrance,about15%ofhouseholdsownshares.

C2012byMcGJAV-IIillEducation.ThisispmprietarymaterialsolelyforaulhorizedinSIructoruse.NO1authorizedforsaleordislliburioninany

manner.]nisdocumentmaynotbeco'pied,scanned*duplicated,fbrvvardfi'J.distributed,orpostedcnawebsite,inwholeor

9.Emphasizingtheimportanceofvoluntarycompliance,asopposedtoenforcement,inthe

aftermathofsuchcorporatescandalsasthoseinvolvingEnronandWorldCom,U.S.President

GeorgeW.Bushstatedthatwhiletougherlawsmighthelp,''ultimately,theethicsofAmerican

businessdependsonthe^scienceofAmerica'sbusinessleaders."Describeyourviewon

thisstatement.

Answer:Therecanbedifferentanswerstothisquestion.Ifbusinessleadersalwaysbehave

withahighethicalstandard,manyofthecorporatescandalswehaveseenlatelymightnothave

happened.Sincewecannotfullydependontheethicalbehavioronthepartofindividual

businessleaders,thesocietyshouldprotectitselfbyadoptingtherules/regulationsand

governancestructurethatwouldinducebusinessleaderstobehaveintheinterestofthesociety

atlarge.

10.SupposeyouareinterestedininvestinginsharesofNokiaCorporationofFinland,whichis

aworldleaderinwirelesscommunicatbn.Butbeforeyoumakeinvestmentdecision,youwould

liketolearnaboutthecompany.VisitthewebsiteofYahoo(httoV/finance.vahoo.cor!})and

collectinformationaboutNokia,includingtherecontstockpricehist訓(xùn)andanalysts*viewsof

thecompany.Discusswhatyoulearnaboutthecompany.Alsodiscusshowtheinstantaneous

accesstoinformationviainternetwouldaffectthenatureandworkingsoffinancialmarkets.

Answer:Asstudentsmighthavelearnedfromvisitingthewebsite,informationisreadily

availableevenforforeigncompanieslikeNokia.Readyaccesstointernationalinformationhelps

integratefinancialmarkets,dismantlingbarrierstointernationalinvestmentandfinancing.

Integration,however,mayhelpafinancialshockinonemarkettobetransmittedtoother

markets.

MINICASE:NIKEANDSWEATSHOPLABOR

Nike,acompanyheadquarteredinBeaverton,Oregon,isamajorforceinthesps此

footwearandfashionindustry,withannualsalesexceeding$12billion,morethanhalfofwhich

nowcomefromoutsidetheUnitedStates.Thecompanywasco-foundedin1964byPhilKnight

aCPAatPriceWaterhouse.andBillBowerman,collegetrackcoach,eachinvesting$500to

start.Thecompany,initiallycalledBlueRibbonSports,changeditsnametoNikein1971and

adoptedthe"Swoosh"logo—recognizablearoundtheworld—originallydesignedbya

college

C2012byMcGJ.sw-Hi11Education.Thisisproprietarymaterialsolelyforaulhorizcdinslructoruse.NotauthorizedforsaleordisITIburioninany

manner.1flisdocumentmaynotbeco,pied,scanned,duplicated,forwaixlfi'J,distributed,orpostedaiawebsite?inwholeor

studentfor$35.Nikebecamehighlysuccessfulindesigningandmarketingmass-appealing

productssuchastheAirJordan,thebestsellingathleticshoeofalltime.

NikehasnoproductionfacilitiesintheUnitedStates.Rather,thecompanymanufactures

athleticshoesandgarmentsinsuchAsiancountriesasChina,Indonesia,andVietnamusing

subcontractors,andsellstheproductsintheU.S.andinternationalmarkets.Ineachofthose

AsiancountrieswhereNikehasproductionfacilities,theratesofunemploymentandunder-

employmentarequitehigh.Thewagerateisve叩lowinthosecountriesbyU.S.standards—the

hourlywagerateinthemanufacturingsectorislessthan$1ineachofthosecountries,

comparedwithabout$20intheUnitedStates.Inaddition,workersinthosecountriesoften

operateinpoorandunhealthyenvironmentsandtheirrightsarenotparticularlywellprotected.

Understandably,hostcountriesareeagertoattractforeigninvestmentslikeNike'stodevelop

theireconomiesandraisethelivingstandardsoftheircitizens.Recently,however,Nikecame

underworldwidecriticismforitspracticeofhiringworkersforsuchalowrateofpay—吶ext

to

nothing"inthewordsofcritics—andcondoningpoorworkingconditionsinhost

countries.

Initially,Nikedeniedthesweatshopchargesandlashedoutatcritics.Butlater,the

companybeganmonitoringthelaborpracticeatitsoverseasfactoriesandgradingthefactories

inordertoimprovelaborstandards.Nikealsoagreedtorandomfacto叩inspectionsby

disinterestedparties.

Oiscussionpoints

1.00youthinkthecriticismofNikeisfair,consideringthatthehostcountriesareindire

needsofcreatingjobs?

2.WhatdoyouthinkNike'sexecutivesmighthavedonedifferentlytopreventthe

sensitivechargesofsweatshoplaborinoverseasfactories?

3.00firmsneedtoconsidertheso-calledcorporatesocialresponsibilitiesinmaking

investmentdecisions?

SuggestedSolutiontoNikeandSweatshopLabor

Obviously.Nike*sinvestmentsinsuchAsiancountriesasChina,Indonesia.andVietnam

weremotivatedtotakeadvantageoflowlaborcostsinthosecountries.WhileNikewas

criticizedforthepoorworkingconditionsforitsworkers,thecompanyhasrecognizedthe

problemandhassubstantiallyimprovedtheworkingenvironmentsrecently.AlthoughNike's

workersgetpaidverylowwagesbytheWesternstandard,theyprobablyaremaking

substantiallymorethantheirlocalcompatriotswhoareeitherunder-orunemployed.While

C2O12byMcGJ1w-HillEducation.Thisispmprietarymaterialsolelyforaulhorizedinstructoruse.NO!authorizedfbrsaleordisITIburioninany

manner,jiiisdocumentmaynotbecopied,scanned,duplicated,fbnvardfi'J,distributed,orpostedcnawebsite,inwholeor

Nike*sdetractorsmayhavevalidpoints,oneshouldnotignorethefactthatthecompanyis

makingcontributionstotheeconomicwelfareofthoseAsiancountriesbycreatingjob

opportunities.

APPENDIX1A.GAINFROMTRADE:THETHEORVOFCOMPARATIVEADVANTAGE

PROBLEMS

1.CountryCcanproducesevenpoundsoffoodorfouryardsoftextilesperunitofinput.

Computetheopportunitycostofproducingfoodinsteadoftextiles.Similarly,computethe

opportunitycostofproducingte^ijilesinsteadoffood.

Solution:Theopportunitycostofproducingfoodinsteadoftextilesisoneyardoftextilesper

714-1.75poundsoffood.Apoundoffoodhasanoppoiijunitycostof4.廳二.57yardsoftextiles.

2.Considertheno-tradeinpuVoutputsituationpresentedinthefollowingtableforCountriesX

andY.Assumingthatfreetradeisallowed,developascenariothatwillbenefitthecitizensof

bothcountries.

INPUT/OUTPUTWITHOUTTRADE

Country

XYTotal

1.UnitsofInput(000,000)

Food7060

Textiles4030

11.OutputperUnitofInput(lbsoryards)

Food175

Textiles52

C2012byMcGJ.'.wiHillEducation.Tliisisproprietarymaterialsolelyforaulliorizcdinstructoruse.NotauthorizedfbrsaleordisTTIburioninany

manner.,nisdocumentmaynotbeco'pied,scanned,duplicated.fbrwaidfi'J?distributed,orpostedcnawebsite,inwholeor

Jl|l.TotalOutput(lbsoryards)(000,000)

Food1,1903001,490

Textiles20060260

IV.Consumption(lbsoryards)(000,000)

Food1,1903001,490

Textiles20060260

Solution:

Examinationoftheno-tradeinputJoutputtableindicatesthatCountryXhasanabsolute

advantageintheproductionoffoodandtextiles.CountryXcan"tradeoff'oneunitof

productionneededtoproduce17poundsoffoodforfiveyardsoftextiles.Thus,ayardof

textileshasanopportunitycostof17/5=3.40poundsoffood,orapoundoffoodhasan

opportunitycostof5/17=.29yardsoftextiles.Analogously,CountryYhasanopportunitycost

of5/2=2.50poundsoffoodperyardoftextiles,or2/5=.40yardsoftextilesperpoundoffood.

Intermsofopportunitycost,itisclearthatCountryXisrelativelymoreefficientinproducing

foodandCountryYisrelativelymoreefficientinproducingtextiles.Thus,CountryX(Y)hasa

comparativeadvantageinproducingfood(textile)iscomparisontoCountryY(X).

Whentherearenorestrictbnsorimpedimentstofreetradetheeconomic-wellbeingof

thecitizensofbothcountriesisenhancedthroughtrade.SupposethatCountryXshifts

20,000,000unitsfromtheproductionoftextilestotheproductionoffoodwhereithasa

comparativeadvantageandthatCountryYshifts60,000,000unitsfromtheproductionoffood

totheproductionoftextileswhereithasacomparativeadvantage.Totaloutputwillnowbe

(90,000,000x17=)1,530,000,000poundsoffoodand[(20,000,000x5=100,000,000)+(90,

000,000x2=180,000,000)斗280,000,000yardsoftextiles.FurthersupposethatCountryX

andCountryYagreeonapriceof3.00poundsoffoodforoneyardoftextiles,andthat

CountryXsellsCountryY330,000,000poundsoffoodfor110,000,000yardsoftextiles.Under

freetrade,thefollowingtableshowsthatthecitizensofCountryX(Y)haveincreasedtheir

consumptionoffoodby10,000,000(30,000,000)poundsandtextilesby10,000,000(10,000,

000)yards.

C2012byMcGJ.sw-HillEducation.Thisisprcprietarymaterialsolelyforaulhorizedinslructoruse.NO1authorizedforsaleordisITiburioninany

manner.Jfiisdocumentmaynotbeco*picd?scanncd>duplicated?fbrward&J?distributed?orpostedonawebsite,inwholeorpart

INPUT/OUTPUTWITHFREETRADE

Country

XYTotal

1.UnitsofInput(000,000)

Food900

Textiles2090

Ji|.OutputperUnitofInput(lbsoryards)

Food175

Textiles52

Jill.TotalOutput(lbsoryards)(000,000)

u

Food1,5301,530

Textiles100180280

IV.Consumption(lbsoryards)(000,000)

Food1,2003301,530

Textiles21070280

CHAPTER2INTERNATIONALMONETARYSYSTEM

ANSWERS&SOLUTIONSTOEND-OF-CHAPTERQUESTIONSANDPROBLEMS

QUESTIONS

1.ExplainGresham'sLaw.

C￡012byMcGJ.'w-HillEducation.Thisisproprietarymaterialsolelyfbraulhorizedinslructoruse.NotauthorizedforsaleordislTIburioninany

manner..fiisdocumentmaynotbcco'picd>scanncd>duplicated?fbrward&J?distributed>orpostedonawebsite,inwholeorpart

Answer:Gresham'slawreferstothephenomenonthatbad(abundant)moneydrivesgood

(scarce)moneyoutofcirculation.Thiskindofphenomenonwasoftenobservedunderthe

bimetallicstandardunderwhichbothgoldandsilverwereusedasmeansofpayments,withthe

exchangeratebetweenthetwofixed.

2.Explainthemechanismwhichrestoresthebalanceofpaymentsequilibriumwhenitis

disturbedunderthegoldstandard.

Answer:Theadjustmentmechanismunderthegoldstandardisreferredtoastheprice-specie-

flowmechanismexpoundedbyDavidHume.Underthegoldstandard,abalanceofpayment

disequilibriumwillbecorrectedbyacounter-flowofgold.SupposethattheU.S.importsmore

fromtheU.K.thanitexportstothelatter.Undertheclassicalgoldstandard,gold,whichisthe

onlymeansofinternationalpayments,willflowfromtheU.S.totheU.K.Asaresult,theU.S.

(U.K.)willexperienceadecrease(increase)inmoneysupply.Thismeansthatthepricelevel

willtendtofallintheU.S.andriseintheU.K.Consequently,theU.S.productsbecomemore

competitiveintheexportmarket,whileU.K.productsbecomelesscompetith/e.Thischangewill

improveU.S.balanceofpaymentsandatthesametimehurttheU.K.balanceofpayments,

eventuallyeliminatingtheinitialBOPdisequilibrium.

3.Supposethatthepoundispeggedtogoldat6poundsperounce,whereasthefrancis

peggedtogoldat12francsperounce.This,ofcourse,impliesthattheequilibriumexchange

rateshouldbetwofrancsperpound.Ifthecurrentmarketexchangerateis2.2francsperpound,

howwouldyoutakeadvantageofthissituation?Whatwouldbetheeffectofshippingcosts?

C2012byMcGJ.'.w-HiliEducalion.ThisisproprietarymaterialsolelyforaulhorizedinSlructoruse.NOlauthorizedforsaleordislTIburioninany

manner.Jnisdocumaitmaynotbeco'pied,scanned,duplicated*forward61.distributed,orpostedonawebsite,inwholeor

Answer:Supposethatyouneedtobuy6poundsusingFrenchfrancs.Ifyoubuy6pounds

directlyintheforeignexchangemarket,itwillcostyou13.2francs.Alternatively,youcanfirst

buyanounceofgoldfor12francsinFranceandthenshipittoEnglandandsellitfor6pounds.

Inthiscase,itonlycostsyou12francstobuy6pounds.Itisthusbeneficialtoshipgolddueto

theoverpricingofthepound.Ofcourse,youcanmakeanarbitrageprofitbyselling6poundsfor

13.2francsintheforeignexchangemarket.Thearbitrageprofitwillbe1.2francs.80far,we

assumedthatshippingcostsdonotexist.Ifitcostsmorethan1.2francstoshipanounceof

gold,therewillbenoarbitrageprofit.

4.Discusstheadvantagesanddisadvantagesofthegoldstandard.

Answer:Theadvantagesofthegoldstandardinclude:(I)sincethesupplyofgoldisrestricted,

countriescannothavehighinflation;(2)anyBOPdisequilibriumcanbecorrectedautomatically

throughcross-borderflowsofgold.Ontheotherhand,themaindisadvantagesofthegold

standardare:(I)theworldeconomycanbesubjecttodeflationarypressureduetorestricted

supplyofgold;(ii)thegoldstandarditselfhasnomechanismtoenforcetherulesofthegame,

and,asaresult,countriesmaypursueeconomicpolicies(likede-monetizationofgold)thatare

incompatiblewiththegoldstandard.

5.WhatwerethemainobjectivesoftheBrettonWoodssystem?

Answer:ThemainobjectivesoftheBrettonWoodssystemaretoachieveexchangerate

stabilityandpromoteinternationaltradeanddevelopment.

6.CommentonthepropositionthattheBrettonWoodssystemwasprogrammedtoaneventual

demise.

Answer:TheanswertothisquestionisrelatedtotheTriffinparadox.Underthegold-exchange

system,thereserve-currencycount叩shouldrunBOPdeficitstosupplyreservestotheworld

economy,butifthedeficitsarelargeandpersistenttheycanleadtoacrisisofconfidencein

thereservecurrencyitself,eventuallycausingthedownfallofthesystem.

C2012byMcGi11Education.Thisisproprietarymaterialsolelyforaulhorizcdinslructoruse.NO1authorizedfbrsaleordisiriburioninany

manner,.fiisdocumentmaynotbeco'pied,scanned,duplicated.fbrwaidfi'J?distributed,orpostedcnawebsite,inwholeor

7.Explainhowspecialdrawingrights(SDR)areconstructed.Also,discussthecircumstances

underwhichtheSDRwascreated.

Answer:SDRwascreatedbytheIMFin1970asanewreserveasset,partiallytoalleviatethe

pressureontheU.S.dollarasthekeyreservecurrency.TheSDRisabasketcurrencycurrently

comprised0110urm剖orcurrencies,i.e.,U.S.dollar,euro,Japaneseyen,andBritishpound.

Currently,thedollarreceivesa41.9%weight,euro37.4%,yen9.4%,andpound11.3%.The

weights10rdifferentcurrenciestendtochangeovertime,rellectingtherelativeimportance01

eachcurrencyininternationaltradeandlinance.

8.Explainthearrangementsandworkings01theEuropeanMonetarySystem(EMS).

Answer:EMSwaslaunchedin1979inorderto(i)establishazoneofmonetarystabilityin

Europe,(ii)coordinateexchangeratepoliciesagainstthenon-EMScurrencies,and(iii)pavethe

way10rtheeventualEuropeanmonetaryunion.Themaininstruments01EMSaretheEuropean

CurrencyUnit(ECU)andtheExchangeRateMechanism(ERM).LikeSDR,theECUisa

basketcurrencyconstructedasaweightedaverage01currencies01EUmembercountries.The

ECUworksastheaccountingunitofEMSandplaysanimportantroleintheworkingsofthe

ERM.TheERMistheprocedurebywhichEMSmembercountriesmanagetheirexchange

rates.TheERMisbasedonaparitygridsystem,withparitygridsfirstcomputedbydefiningthe

parvaluesofEMScurrenciesintermsoftheECU.IfacountrysECUmarketexchangerate

divergesfromthecentralratebyasmuchasthemaximumallowabledeviation,thecountryhas

toadjustitspoliciestomaintainitsparvaluesrelativetoothercurrencies.EMSachieveda

completemonetanpunionin1999whenthecommonEuropeancurrency,theeuro,wasadopted.

9.Thereareargumentsforandagainstthealternativeexchangerateregimes.

a.Listtheadvantagesoftheflexibleexchangerateregime.

b.Criticizetheflexibleexchangerateregimefromtheviewpointoftheproponentsofthefixed

exchangerateregime.

c.Rebuttheabovecriticismfromtheviewpointoftheproponents01theflexibleexchangerate

regime.

C2012byMcGJ'Av-IlillEducation.ThisispiuprietaiymaterialsolelyforaulhorizedinSlructoruse.Notauthorizedft)rsaleordisITIburioninany

manner.Iftisdocumentmaynotbeco'picd?scanncd>duplicated,forward&J,distributed?orpostedcnawebsite?inwholeorpart

Answer:a.Theadvantagesoftheflexibleexchangeratesysteminclude:(1)automatic

achievementofbalanceofpaymentsequilibriumand(ii)maintenanceofnationalpolicy

autonomy.

b.Ifexchangeratesarefluctuatingrandomly,thatmaydiscourageinternationaltradeand

encouragemarketsegmentation.This,inturn,mayleadtosuboptimalallocationofresources.

c.Economicagentscanhedgeexchangeriskbymeansofforwardcontractsandother

techniques.Theydon'thavetobearitiftheychoosenotto.Inaddition,underafixedexchange

rateregime,governmentsoftenrestrictinternationaltradeinordertomaintaintheexchange

rate.Thisisaself-defeatingmeasure.Whai'sgoodaboutthefixedexchangerateifinternational

tradeneedtoberestricted?

10.Inanintegratedworldfinancialmarket,afinancialcrisisinacountrycanbequickly

transmittedtoothercountries,causingaglobalcrisis.Whatkindofmeasureswouldyou

proposetopreventtherecurrenceofanAsia-typecrisis.

Answer:Firstthereshouldbeamultinationalsafetynettosafeguardtheworldfinancialsystem

fromtheAsia-typecrisis.Second,internationalinstitutionslikeIMFandtheWorldBankshould

monitorproblematiccountriesmorecloselyandprovidetimelyadvicetothosecountries.

Countriesshouldberequiredtofullydiscloseeconomicandfinancialinformationsothat

devaluationsurprisescanbeprevented.Third,countriesshoulddependmoreondomestic

savingsandlong-termforeigninvestments,ratherthanshort-termportfoliocapital.Therecanbe

othersuggestions.

11.Discussthecriteriafora'good'internationalmonetarysystem.

Answer:Agoodinternationalmonetarysystemshouldprovide(i)suffici