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Exchange Arrangements and Controls
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Currency and Exchange Rates
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The currency and exchange rates may act as deterrents to using certain countries
as IOFCs.
An exchange rate is the price at which one currency can be exchanged for another,
expressed in units of such currencies. Like all other prices, exchange rates tend
to vary from time to time, however slightly.
Far more extensive and sudden rate variations result from the devaluation and revaluation
of currencies. In periods of monetary instability, the greatest possible care must
be exercised in determining the currencies to be employed with respect to the various
elements of a proposed international structure. Changes in international monetary
markets may result in substantial losses to the one party and corresponding gains
to the other.
In the case of contracts for imports, exports, licenses, and many other international
business agreements, possible changes in exchange rates require careful consideration
for the selection of a currency for stipulating prices. Fluctuations in the exchange
rates are of particular importance in the case of loans.
This is well illustrated in the choice of currencies for Eurobond issues. In the
early days of this market, most Eurobonds were expressed in U.S. dollars, as this
was considered to be the most stable currency. However, as other currencies, particularly
the euro, strengthened it became more common to find issues in such currencies.
The use of forward markets may constitute a useful hedge against adverse currency
changes. To protect the value of future receipts in a foreign currency, a company
may sell forward the foreign currency, though only effecting delivery of such foreign
currency at the time provided for in the contract. Prices vary according to the
currencies involved but are normally related to current interest rates.
The forward market may also be used as a protection against the devaluation of the
currency of a country where a foreign subsidiary is located. In such a case, a parent
company may sell forward in the amount required for the operations of the subsidiary.
Sometimes it is necessary for a borrower or an importer to use forward markets as
a protection against the devaluation of a particular currency.
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Prev - Exchange Arrangements and Controls
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