global marketing management by masaaki kotabe · 2018. 3. 5. · kotabe & helsen's global marketing...

FINANCIAL ENVIRONMENT

Inside:

1. Historical Role of the U.S. Dollar

2. Development of Today’s International Monetary System

3. Fixed Versus Floating Exchange Rates

4. Foreign Exchange and Foreign Exchange Rates

5. Balance of Payments

6. Economic and Financial Turmoil Around the World

7. Marketing in Euro-Land

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Introduction

•Foreign exchange is the monetary mechanism allowing the transfer of funds from one nation to another.•The existing international monetary system always

affects companies as well as individuals whenever they buy or sell products and services traded across national borders.•Although international marketers have to operate in

a currently existing international monetary system for international transactions and settlements, they should understand how the

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Introduction (contd.)

scope and nature of the system has changed and how it has worked over time.

•The 1990s – particularly, the second half of the decade – proved to be one of the most turbulent periods in recent history.

•The adoption of the euro as a common currency in the European Union in 1999 is just one example of the many changes taking place in today’s business world.


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1. Historical Role of the U.S. Dollar

•Each country has its own currency through which it expresses the value of its products.

• In the post-World War II period, the United States agreed to to exchange the dollar at $35 per ounce of gold.

•The dollar became the common denominator in world trade.

• In the early seventies, the U.S. dollar standard was dropped.


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2. Development of Today’s International Monetary System• Post-World War II developments had long-range effects on international financial

arrangements.

• The negotiations to establish the postwar international monetary system took place at the resort of Bretton Woods in New Hampshire in 1944 which established the International Monetary Fund (IMF). Recommendation:

1. Free floating exchange rates could not work. Their ineffectiveness had been demonstrated in the interwar years. The extremes of both permanently fixed and floating rates should be avoided.

2. A monetary system was needed that would recognize that exchange rates were both a national and international concern.

3. Currencies were to establish par values in terms of gold.

4. Dollar is set up to have par value to gold.

5. US government has the obligation to exchange dollars with gold

6. US gold reserve is dried up to maintain dollars value

• President Richard Nixon suspended the convertibility of the dollar to gold on August 15, 1971.


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2. Development of Today’s International Monetary System (contd.)

•The IMF oversees the international monetary system and its functions are as follows:• To promote international monetary cooperation• To facilitate the expansion and balanced growth of

international trade• To promote exchange stability and to maintain orderly

exchange arrangements• To assist in the establishment of a multilateral system of

payments in respect to current transactions between member nations; to eliminate foreign exchange restrictions


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• To make available the general resources of the fund temporarily available to members under adequate safeguards; help members to correct maladjustments in the balance of payments

• To shorten the duration and lessen the degree of disequilibrium in the international balance of payments to members

• The IMF created special drawing rights (SDRs) in 1969.• Its a form of international money, created by the

International Monetary Fund, and defined as a weighted average of various convertible currencies


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•The value of SDRs is determined by a weighted average of a basket of four currencies: the U.S. dollar, the Japanese yen, the European Union’s euro, and the British pound.•After the 1997-98 Asian financial crisis, the IMF has

worked on policies to overcome or even prevent future crisis.•Another creation of of the Bretton Woods

Agreement was the International Bank for Reconstruction and Development, known as the World Bank.

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More About SDR

3. Fixed Versus Floating Exchange Rates

•Two kinds of currency floats encompass free/clean float (allows no government intervention) and managed float (allows limited government intervention).

• In March 1973, the major currencies began to float in the foreign exchange markets.

•Today, the global economy is dominated by three major currency blocs: The U.S. dollar, the Japanese yen, and the EU’s euro.


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4. Foreign Exchange and Foreign Exchange Rates

•One of the most fundamental determinants of the exchange rate is Purchasing Power Parity (PPP).•Formula for PPP:

(1 + InflBritain)Rt = R0 * _____________

(1 + InflU.S.)Where R = the exchange rate quoted in a

currencyInfl = Inflation ratet = time period


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4. Foreign Exchange and Foreign Exchange Rates (contd.)

•The Economist publishes a PPP study (Big Mac Index) every year based on McDonald’s Big Mac hamburger (see Exhibit 3-2).

•Factors influencing Foreign Exchange Rates (see Exhibit 3-3):• Macroeconomic Factors: Relative inflation, balance of payments, foreign

exchange reserves, economic growth, government spending, money supply growth, and interest rate policy.


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• Political Factors: Exchange rate control, election year or leadership change.

• Random Factors: Unexpected and/or unpredicted events, fear of uncertainty, etc.

• Many countries attempt to maintain a lower value for their currency in order to encourage exports.


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• Spot versus forward exchange rates

• Hard currencies are the world’s strongest and represent the world’s leading economies.

• To avoid the risk of currency fluctuations, companies use hedging.

• Target exchange rate

• Exchange rate pass through


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5. Balance of Payments

•The balance of payment (BOP) of a nation summarizes all the transactions that take place between its residents and and the residents of other countries over a specified time period, usually a month, quarter, or year.

•The BOP transactions contain three categories (see Exhibit 3-5):• Current account

• Capital account

• Official reserves


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5. Balance of Payments (contd.)

•The BOP on capital account summarizes financial transactions and is divided into short -and long-term capital accounts.

•Direct investments are controlled by residents of other nations.

•Portfolio investment includes long-term investments that do not give the investors effective control over the investment.

•There are three balances to identify on the BOP statement of a country:


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5. Balance of Payments (contd.)

• Balance of merchandise trade account

• The current account (including merchandise trade, trade in services, and unilateral transfers)

• The basic balance (the current account and the long-term capital)

•The internal market adjustment refers to movement of prices and income in a country.

•The external market adjustment concerns exchange rates or a nation’s currency and its value with respect to the currencies of other nations.


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Kotabe & Helsen's Global Marketing Management, Third

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B.O.P Example

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6. Economic and Financial Turmoil Around the World

•The Asian financial crisis in the latter half of the 1990s escalated into the biggest threat to global prosperity.

•China’s devaluation of its currency (yuan) triggered the Asian financial crisis in 1994.

•Because of this financial crisis, Thailand lost almost 60 percent of its baht’s purchasing power in dollar terms in 1997.

•The Malaysian ringgit lost some 40 percent of its value during the same period.


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6. Economic and Financial Turmoil Around the World (contd.)

•The Korean won depreciated 50 percent against

the U.S. dollar.

• Increased demand for Asian exports has helped the region rebound quickly from the slump in 2001.

•The South American Financial Crisis took place in 2001 when Argentina defaulted and lost nearly 40 percent of its currency value.

•The Argentina crisis also hurt Brazil.


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•Responses to the regional financial crises.• Consumer response to the recession

• Corporate response to the recession

•Pull-out•Emphasize a product’s value•Change the product mix•Repackage the goods•Maintain stricter inventory


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• Look outside the region for expansion opportunities• Increase advertising in the region• Increase local procurement


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Consumer Response to Recession


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1. How did the U.S. dollar become the international transaction currency in the post World War II era?


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Because of the strength of the military, economic, political,

and fiscal power of the United States following World War II,

the United States agreed to exchange the dollar at a rate of

$35 per ounce of gold. With the value of the dollar stabilized,

countries could deal in dollars without being constrained by

currency fluctuations. Thus, the dollar became the common

denominator in world trade.

2. Which international currency or currencies are likely to increasingly assume a role of the international transaction currency in international trade? Why?

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Today, the global economy is increasingly dominated by three

major currency blocs. The U.S. dollar, the Japanese yen, and

the German mark each represent their “spheres of influence” on

the currencies of other currencies in their respective regions.

Each of these currencies has become the standard within its

regions of the world (and thereby have also become

international trading currencies).

3. Why is a fixed exchange rate regime that promotes the stability of the currency value inherently unstable?

The real rate of stability of currency value depends on the stability of economic and financial conditions. History has shown that these variables fluctuate. Government intervention is always a reality, therefore, instability must be managed if exchange rates are to be stable.

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4. Discuss the primary roles of the International Monetary Fund and World Bank.

• The International Monetary Fund (IMF) was created at Bretton Woods to oversee the newly created monetary system. The IMF was a specialized agency within the United Nations established to promote international monetary cooperation and to facilitate the expansion of trade, and in turn to contribute to increased employment and improved conditions in all member countries.

• Another creation of the Bretton Woods conference was the International Bank for Reconstruction and Development, known as the World Bank. The World Bank (as different from the IMF) was initially intended for the financing of postwar reconstruction and development and later for infrastructure building projects in the developing world. More recently, the Bank has begun to participate actively with the IMF to resolve debt problems of the developing world and may also play a major role in bringing a market economy to the former members of the Eastern bloc.

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5. What is the managed float?

A managed float allows for a limited amount of government intervention to soften sudden swings in value of a currency. If a nation’s currency enters into a rapid ascent or decline, that nation’s central bank may wish to sell or buy that currency on the open market in a countervailing movement to offset the prevailing market tendency. This is for the purpose of maintaining an orderly, less volatile foreign exchange market.


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6. How does a currency bloc help a multinational company’s global operations?

The currency bloc helps a multinational within a regional area because a particular currency will be pegged as the currency to trade in and some degree of stability will occur. The currency bloc medium (a particular currency) will probably be more stable than the currency of any particular country (especially if it is a developing country). The currency bloc phenomenon encourages trade within a particular region.

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7. Describe in your own words how the knowledge of spot and forward exchange rate market helps international marketers.

• In order to answer this question, students should refer to the definitional material in the chapter. A summary of this material is presented below.

• If payment on a transaction is to be made immediately, the purchaser has no choice other than to buy foreign exchange on the spot (or current) market, for immediate delivery. However, if payment is to be made at some future date, the purchaser has the option of buying foreign exchange on the spot market or on the forward market, for delivery at some future date. The advantage of the forward market is that the buyer can lock in an exchange rate and avoid the risk of currency fluctuations; this is called hedging, or protecting oneself against potential loss.

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8. Why is the exchange rate pass-through usually less than perfect (i.e., less than 100 percent)?

The extent to which a foreign company changes dollar prices of its products in the U.S. market as a result of exchange rate fluctuations is called exchange rate pass-through. It is usually less than perfect because it requires an estimate of the average increase with respect to dollar prices (with respect to the currency of the trading country or company).

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9. Define the four types of balance of payments measures.

a. The balance of payments in goods account (trade balance, for short) shows trade in currently produced goods as well as unilateral transfers (private gifts) of merchandise.

b. The balance of payments in current account (current account balance) shows trade in currently produced goods and services as well as unilateral transfers (private gifts and foreign aid) of merchandise.

c. The balance of payments in capital account (capital account) summarizes financial transactions and is divided into two sections, short and long capital accounts.

d. Subaccounts include direct investments and portfolio investment. Direct investments are those investments in enterprises or properties that are effectively controlled by residents of another country. Portfolio investment includes all long term investments that do not give the investors effective control over the investments.

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10. Describe the sequence of events that took place to cause the Asian financial crisis in the late 1990s.The Asian Financial Crisis started in May 1997. China’s devaluation of its currency triggered the crisis which later spread to Thailand, Malaysia, Indonesia, and South Korea. This was one of the worst crisis in East Asia. For example, the Thai bath lost 60 percent of its value against the U.S. dollar. Currencies from South Korea, Malaysia and Indonesia were also depreciated. Countries which had borrowed heavily from abroad were the first to be hit by the crisis. Other reasons include: internal debt, careless foreign expansions, and government interventions in their local economies. In short, the Asian Financial crisis resulted in a disastrous competitive depreciation of the currencies as well as local economies. International marketers were equally hit by this crisis.

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11. What are advantages and disadvantages of having the euro as a common currency in the European Union?

The European Union (EU) consists of fifteen countries. To bring the cost down and harmonize their economies, the member nations signed the Maastricht Treaty which aimed at replacing local currencies with a single currency. Except for the United Kingdom, all the members nations of the EU joined the Exchange Rate Mechanism (ERM) which determined bilateral currency exchange rates. For international marketers, the euro carries far reaching implications such as: harmonizing the economies, reducing prices and transaction costs, and more cross-border competition. In addition, other benefits include: streamlining supply-chains and new opportunities for small and medium-sized companies. One of the major disadvantages of the euro is its cost factor. Massive investment in computer infrastructure and logistical expenses are needed to put in place the change-over. The euro-conversion will cost companies abut $65 billion.

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global marketing management by masaaki kotabe · 2018. 3. 5. · kotabe & helsen's global marketing...

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