Conten ts list OF TABLES. list OF FIGURES CHAPTER 1 INTRODUCTION

Transcription

1 Conten ts list OF TABLES list OF FIGURES IX XIII PREFACE XVII CHAPTER 1 CHAPTER CHAPTER INTRODUCTION THE INFORMATION PROBlEM-GOAlS, DEllMITATtONS AN D METHODS OF STUDY 5 Introduction 5 Frame of reference 6 Formulation of the problem 16 Financial market fluctuations and the eost of foreign loans 16 Aims 22 Ideal aims 22 Actual aims 23 Delimitation of the study 26 Related studies 28 Methodology 32 Choice of period to be studied 33 Data collection 34 Choice of analytical method 35 Plan of the following ehapters 35 FOREIGN BORROWING IN CORPORATE OPERATION5-A SYSTEMS VIEW 37 Introduetion 37 Systems picture of corporate deeisions under foreign exchange uncertainty 38 v

2 vi Contents CHAPTER : Capital maintenance 40 Decision aspects of the foreign loan 46 Terms of the loan 47 The forward market 51 Risk premium 55 New forms of borrowing 56 Choice of loan currency 57 Taxation aspects 59 Exchange risk 61 Currency risk versus country risk 69 Accounting risk and economic risk 71 Exchange risk in corporate operations 75 Risk preferences 80 Exposure management 82 Foreign loans and hedging opportunities 89 Decision to hedge on the forward market 89 Exchange rate reserve 91 Risk management-the organizational aspect 92 ANALYSIS OF THE FOREIGN EXCHANGE MARKET, Introduction 99 Models and equilibrium relationships 100 The Purchasing Power Paritv theory 110 Choice of index 113 Choice of base period 11 5 Bilateral or multilateral measurement 118 Analysis of the purchasing power parity index, The Interest Rate Parity theory 125 Analysis of the Interest Rate Parity theory, Fisher's Open Relationship 135 Analysis of Fisher's Open Relationship for the period Some concluding comments on the equilibrium relationships 149 Analysis of the spot market 151 Box-Jenkins analysis of spot rates 161 Correlations between exchange rate movements in different currencies, Analysis of the forward market 170 Box-Jenkins analysis of forward rates 173 Exchange rate forecasts 176

3 Contents vii CHAPTER CHAPTER CHAPTER Long-term foreeasts 180 Short-term foreeasts 181 Forward rate as a foreeast 183 Comparison of market-based foreeasts, Exehange rate forecasts in corporate planning '200 FINANCIAL MARKET FLUCTUATIONS AND THE COST OF FOREIGN LOANS, Introduction 209 Corporate cost of capital 210 Interest rate patterns 21 2 Additional eost index 222 The cost of hedging a loan-an example 227 MAIN APPROACHES TO FOREIGN EXCHANGE ACCOUNTING 229 Introduction 229 Recapitulation of the problems involved 229 International approaehes 230 Development in the US standards 233 Development in the UK standards 240 Comparisons of international recommendations or statements 242 Direetions for further research on foreign exchange accounting 249 PROPOSALS FOR NEW ACCOUNTING STANDARDS FOR MONETARY ITEMS 253 Introduction 253 Need for new principles 253 Conditions in the example 257 Amortization 258 Accounting periods 259 Method based on Purchasing Power Parity theory 262 Prerequisites 265 Application of the method, with an example 265 Method based on Fisher's Open Relationship 268 Prerequisites 269 Method based on forward exchange rates 270 Prerequisites 270 Comparison of reeommended methods 270 Empirical evaluation 273

4 viii Contents CHAPTER 8 SUMMARY AND RECOMMENDATIONS 283 APPENDIX 1 EXCHANGE RATE ARRANGEMENTS 289 APPENDIX 2 APPENDIX 3 RELEVANT VARIABLES AND SOURCES IN THE DATA BASE USED 293 BREAK-EVEN POINT FOR FOREIGN LOAN DECISION-MAKING 297 APPENDIX 4 EXAMPLES OF DIFFERENT METHODS OF TRANSLATION 299 APPENDIX 5 APPENDIX 6 DIFFERENT WAYS OF INFLUENCING THE RISK EXPOSURE 303 YIELD ON SPOT AND forward SPECULA TIaN 305 BIBLIOGRAPHY 313 INDEX 328

5 List oftables 2.1 Sources of exchange risk Methods of calculating cost in dollars of foreign currency loans Characteristics of foreign exchange exposure Evaluation of traditional exchange exposure measurement methods Corporate cash flows and exchange risk exposure Balance sheet translation niles Categories of decisions affecting corporate exchange positions Company's expected exposure at different combinations of risk attitudes and ideas about the efficiency of the market Hedging decisions Organizational unit at which specific exchange risk management subtasks are performed Risk influence and the distribution of decisionmaking Purchasing power parity index, Openness to international trade Mean and standard deviation in the deviation from interest rate parity based on three-month treasury bill rates Mean and standard deviation in the deviation from interest rate parity based on three-month commercial bank prime lending rates 130' 4.5 Covered interest arbitrage profit opportunities Number of individual observations outside the 'economic interest parity interval' for different currencies and for the period Mean and standard deviation in the deviation from ix

6 x List oftables Fisher's Open Relationship based on three-month treasury bi II rates Mean and standard deviation in the deviation from Fisher's Open Relationship based on three-month commercial bank prime lending rates Greatest positive and negative deviations from Fisher's Open Relationship, based on treasury bill rates during the period Greatest positive and negative deviations from Fisher's Open Relationship, based on commercial bank prime lending rates during the period Mean and standard deviation in weekly percentage change in spot rate Greatest positive and negative weekly percentage change in spot rate during the period Number of sequences of same sign of weekly changes in the exchange rate during the period Estimated parameters in ARIMA (p/d/q) models for description of spot rate movements Test of alternative ARIMA-models against the random-walk model for descriptive purposes concerning the spot rate 'Best' ARIMA model in different periods Correlation between the weekly percentage change in the spot price of different currencies in SEK, Correlation between the weekly percentage change compared to the basket in the spot price of different currencies in SEK, Correlation between the weekly percentage change compared to the basket in the spot price of different currencies in SEK, Correlation between the weekly percentage change compared to the basket in the spot price of different currencies in SEK, Correlation between the monthly percentage change compared to the basket in the spot price of different currencies in SEK, Mean and standard deviation in three-month forward premium/discount Estimated parameters in ARIMA (p/d/q) models for description of movements in three-month forward rates Tests of alternative ARIMA-models against the random-walk model for descriptive purposes concerning the three-month forward rate 175

7 List oftables xi 4.25 Identifieation and ranking of the most useful indieators of future exehange rate movements Three-month forward rate as a foreeast of the future spot rate, Relative three-month forward premium/diseount as a foreeast of relative ehanges in exehange rates, Mean and standard deviation in foreeast errors in per eent in foreeasts based on three-month forward premium/diseount Mean forecast error in foreeasting the ehange in spot rate three months ahead Standard deviation in the foreeast error in foreeasting the ehange in spot rate three months ahead VariabiIity of long-term interest rates Real bond yields Margins on long-term bonds Additional eost of foreign loans Additional eost of foreign loans for a Swedish borrower-separated into an interest rate part and a foreign exchange rate part Actual cost in local currency on loans on the Swiss bond market for borrowers from different countries Comparisons between proposals and statements for foreign exchange accounting The distribution of capital eosts for a Swedish borrower when the foreign debt is evaluated on a basis of the closing rate Measures for comparison of different aeeounting standards when accounting for capital costs of borrowing in foreign curreneies, Closing rate against PPP rate Measures for comparison of different accounting standards when aceounting for capital eosts of borrowing in foreign currencies, Closing rate against interest rate differential Measures for comparison of different accounting standards when accounting for capital costs of borrowing in foreign currencies, Closing rate against forward rate 279 A6.1 Mean and standard deviation in speculative yield on spot transactions 305 A6.2 Mean and standard deviation in speculative yield on forward transactions 311

8 List offigures 2.1 Prediction and decision models Normative accounting theory from a systems viewpoint Levets of abstraction The company's risk Corporate decision-making under foreign exchange uncertainty Corporate planning levels Elements of financial planning Flow chart for 'a simplified financial planning modet Influence from financial environment, and payments to and from a company Euro-rates and national rates of interest Arbitrage argument-deviations from interest rate parity Uncertainty versus risk Principles for estimating corporate foreign exchange exposure The time aspect of the currency position Decision process in exposure management Yield and risk Length of risk period covered with different means Equilibrium relations between exchange rate movements, inflation rates and interest differentials Relative inflation and exchange rate movements Purchasing power parity index SEK/GBP Purchasing power parity index SEK/USD Purchasing power parity index SEK/DEM ' Purchasing power parity index SEK/CHF Purchasing power parity index SEK/JPY Purchasing power parity index SEK/basket currencies 123 xiii

9 xiv List offigures 4.9 Deviations from interest rate parity, SEK/GBP, treasury bill rates Deviations from interest rate parity, SEK/USD, treasury bill rates Deviations from interest rate parity, SEK/DEM, treasury bill rates Deviations from interest rate parity, SEK/JPY, treasury bi II rates Deviations from interest rate parity, SEK/GBP, prime lending rates Deviations from interest rate parity, SEK/USD, prime lending rates Deviations from interest rate parity, SEK/DEM, prime lending rates Deviations from interest rate parity, SEK/CHF, prime lending rates Deviations from interest rate parity, SEKlJPY, prime lending rates Deviations from Fisher's Open Relationship, SEKI GBP, Euro-rates Deviations from Fisher's Open Relationship, SEKI DEM, Euro-rates Deviations from Fisher's Open Relationship, SEKI CHF, Euro-rates Deviations from Fisher's Open Relationship, SEKI GBP, treasury bill rates Deviations from Fisher's Open Relationship, SEKI USD, treasury bill rates Deviations from Fisher's Open Relationship, SEKI DEM, treasury bill rates Deviations from Fisher's Open Relationship, SEK/JPY, treasury bill rates Deviations from Fisher's Open Relationship, SEKI GBP, prime lending rates Deviations from Fisher's Open Relationship, SEKI USD, prime lending rates Deviations from Fisher's Open Relationship, SEKI DEM, prime lending rates Deviations from Fisher's Open Relationship SEKI CHF, prime lending rates Deviations from Fisher's Open Relationship, SEK/JPY, prime lending rates Exchange rate index SEK/foreign currency (nominal rates) Weekly percentage change in spot rate SEK/GBP 153

10 List of figures xv Weekly pereentage ehange in spot rate SEK/USD 154 Weekly pereentage ehange in spot rate SEK/DEM 154 Weekly pereentage ehange in spot rate SEK/CHF 155 Weekly pereentage ehange in spot rate SEK/JPY 155 Weekly pereentage ehange in the spot priee of SEK vis-a-vis the Swedish eurreney basket 157 Weekly pereentage ehange in the spot priee of USD vis-a-vis the Swedish eurreney basket 158 Spot and forward rates for SEK/CHF 171 Spot and forward rates for SEK/GBP 172 The forward rate as a foreeast 184 Distribution of foreeast errors using the forward rate as a foreeast, SEK/USD 187 Distribution of foreeast errors using the forward rate as a foreeast, SEK/DEM 188 The cost of eover with three-month forward transaetians, SEK/GBP 189 The east of eover with three-month forward transaetians, SEK/USD 189 The eost of eover with three-month forward transaetians, SEK/DEM 190 The ~ost of eover with three-month forward transactions, SEK/CHF 190 The eost of eover with three-month forward transaetians, SEK/J PY 191 Deutsehemark against US dollar-a foreeast eompetition 205 Official discount rates 213 Swedish official diseount rate vis-a-vis the weighted average of the OECD diseount rates 215 Interest rate differentials and deviations from purehasing power parity 21 6 The balanee between discount rate differentials and deviations from purehasing power parity for SEK 21 7 Three-month Euro-interest rates 218 Rates of interest in Sweden 218 Real interest rates on industrial bonds 221 Index of additional eost of borrowing in USD or CHF as eompared to SEK, Index of additional eost of bofrowing in GBP as eompar~d to SEK, Index of additional east of borrowing in DEM as compared to SEK, Index of additional eost of borrowing in JPY as eompared to SEK,

11 xvi List offigures A6.1 A6.2 A6.3 A6.4 A6.5 A6.6 A6.7 A6.8 A6.9 Example of the capital eost of a loan in USD, eovered on the forward market, and a loan in SEK 228 Examples of problem areas in foreign exehange aeeounting 231 Debt growth and yearly effeetive growth rate, / Quarterly capital eosts in the profit and loss aeeount, loan in USD 259 Quarterly capital costs in the profit and loss aceount, loan in DEM 260 Quarterly capital eosts in the profit and loss aceount, loaninchf 261 Quarterly capital eosts in the profit and loss aeeount, loan in JPY 262 The capital eost distribution on a yearly basis 264 PPP ealeulated capital cost in the profit and loss aceount, loan in USD 266 PPP ealeulated capital eost in the profit and loss account, loan in DEM 267 PPP calculated capital eost in the profit and loss aceount, loan in CHF 267 PPP calculated capital eost in the profit and loss aceount, loan in JPY 268 Capital costs in the profit and loss account-comparison of different aceounting standards for a loan in USD for a Swedish borrower 273 Capital costs in the profit and loss account-comparison of different accounting standards for a loan in DEM for a Swedish borrower 2'74 Capital costs in the profit and loss aceount-eomparison of different aceounting standards for a loan in CHF for a Swedish borrower 274 Capital costs in the profit and loss aecount-eomparison of different aeeounting standards for a loan in JPY for a Swedish borrower 275 Taxation of exchange rate differentials 280 Yield on spot speeulation SEK/GBP 306 Yield on spot speculation SEK/USD 306 Yield on spot speeulation SEK/DEM 307 Yield on spot speeulation SEK/JPY 307 Yield on forward speculation SEK/GBP 308 Yield on forward speculation SEK/USD 309 Yield on forward speeulation SEK/DEM 309 Yield on forward speculation SEK/CHF 310 Yield on forward speculation SEK/J PY 310