International financial management

Presented to :
Mam shehla Akhtar
Presented by :
Group “H”
Sheeza Bhatti
 AGENDA
.INTEREST RATE PARITY
PURCHASE POWER PARITY
INTERNATIONAL FISHER’S
EFFECT
.COMPARISON OF IRP,PPP,IFE
.CASE STUDY
The Interest Rate Parity states that the interest
rate difference between two countries is equal to
the percentage difference between the forward
exchange rate and the spot exchange rate.
It plays essential role in foreign exchange markets.

When the returns on two currencies are equal, interest rate

parity prevails.
The purchasing power of a country’s currency.
The number of units of currency required to
purchase a basket of goods in Pakistan and the
same
Basket of goods and services that a USD would
buy in United states
differences in living standards between nations
because PPP takes into account the
• relative cost of living
• inflation rates
 International Fisher Effect (IFE)

Difference in nominal interest rates supported by two

nations’ currencies will
cause an equal but opposite change in their spot exchange
rates

Real interest rate = Nominal - Inflation

Tazeen Khan
COMPARISON OF THE IRP, PPP, IFE
 Theory Input Output or Result
Independent or dependent
variable variable quoted
Time frame
at
Premium or
discount
Interest Rate Interest rate Forward exchange Used for short
Parity (IRP) differential rate term i.e., less than
a year, where
interest rates
change
Purchasing Power Inflation rate Used for long
Parity (PPP) differential spot exchange rate term where
inflation effects
exchange rates.
International Interest rate spot exchange rate
fisher effect(IFE) differential
 COMPARISON OF THE IRP, PPP, AND IFE
Interest rate parity
Forward rate premium p
1+𝐼𝒉
Interest rate differential ih – if 𝑝=
(1+𝑖𝑓)
− 1 ≅ 𝑖ℎ − 𝑖𝑓

Purchasing power parity

% ∆ in spot exchange rate ef
1+Ih
Inflation rate differential Ih – If ef =
(1+if)
− 1 ≅ ih − if

International Fisher effect

% ∆ in spot exchange rate ef
Interest rate differential ih – if 1+𝐼ℎ
𝑒𝑓 = −1
(1+𝑖𝑓)
Raazia
Hamdani
Blades Inc.
Introduction:
Blades the U.S based roller blades manufacturer, is currently
both exporting to and importing from Thailand. The
company has chosen Thailand as an export target for its
primary product, speedos, because of Thailand’s growth
prospects and the lack of competition from both Thai and
U.S roller blade manufacturers in Thailand. Blades sells
180,000 pairs of speedos annually to Entertainment
products,Inc. a Thai retailer. Blades generates
approximately 10 % of its revenue in Thailand.
Problems :
• Weak Economic
Conditions
• Inflation
Conclusion:
Blades has no immediate plans for expansion in Thailand ,it may
establish a subsidiary there in the future…if they does not establish
subsidiary in Thailand ,it will continue exporting to
and importing from country for several years. Management is very
concerned about recent events in Thailand neighboring countries.
CFO concern about the level of inflation in
Thailand. He also concern about blades cost of goods sold incurred
in Thailand.. no price arrangement exists and the components are
invoiced in Thai bath .Holt start thinking about
future economic conditions in Thailand and resulting impact on
Blades.
Rubab noor
1.What is the relationship between the exchange rates
and relative inflation levels of the two countries? How
will this relationship affect Blades’ Thai revenue and
costs given that the baht is freely floating? What is the
net effect of this relationship on Blades?
A:

IT CAN EXPLAIN BY PPP theory

.invers relationship between the inflation
rate and exchange rate
.import increase export decrease .
.bath has freely floating currency
. The inflation rate of Thailand is high,
this will depreciate Baht currency in
Thailand.
. Blades’ revenue generated in Thailand
will be negatively affected by PPP
However, the high prices
resulting from high levels of
inflation in Thailand may be
somewhat offset by a
depreciation of the baht. Since
Blades generates net cash
inflows from its Thai
operations, it will be
negatively affected by PPP.
2.What are some of the factors that prevent PPP from
occurring in the short run? Would you expect PPP to hold
better if countries negotiate trade arrangements under which
they commit themselves to the purchase or sale of a fixed
number of goods over a specified time period?Why or NOT
A: PPP may not hold because exchange rates are affected by other factors in
addition to the inflation differential between two countries, such as relative
interest rates, national income levels, and government controls. Furthermore,
certain goods may not be affected beep because no suitable substitutes are
available in the home country. Thus, the trade relationships between two
countries for these goods may not be affected by inflation rate differentials in
the manner suggested by PPP. Arrangements whereby firms with differing
inflation commit themselves to the purchase of affixed number of goods over a
specified period of time will cause PPP not to hold
3. Given blades future plan in Thailand ,
should the company be concerned with
PPP why or why not ?
A: .PPP not hold in shot run so it run in
long run.
.They have 3 years arrangement so
they expand into Thailand
.In the long run high level of thai
inflation may result in a depreciation of
the baht sufficient to off set the
inflation differential.
. BLADS will be able once 3 year
time is over .
4: PPP may hold better for some countries that for others. The thai
baht has been freely floating for more then a decade. How do you
think blades can gain insight intro whether ppp holds for Thailand?
Offer some logic to explain why the ppp relationship may not hold
here.
A: ONE possible way to determine whether PPP holds between two
countries is to regress historical exchange rate changes on the
inflation differential between two countries .The PPP relationship
may not hold because other factors also influence the baht exchange
rate