Assignment - 01
introduction to international financial market
Background to international finance
International finance as a subject is not new in the area of financial management, it has been widely covered earlier in international economics and it is only the fast growth of international business in the post-world war II and the associated complexities in the international transactions that made the subject as an independent area of study. With growing operation of multinational corporations, a number of complexities arose in the area of their financial decisions. Apart from the considerations of where, when and how to invest, the decision concerning the management of working capital among their different subsidiaries and the parent units became more complex, especially because the basic policies varied from one MNC to another. Those MNCs that were more interested in maximizing the value of global wealth adopted a centralized approach while those not interfering much with their subsidiaries believed in a decentralized approach. Normally there is a mix of the two approaches in varying proportions, for which the study of international finance has come to be more relevant. The second half of the twentieth century has also experienced a vast magnitude of lending by international and regional development banks (e.g. City bank, Barclays, African development Bank, Standard Chartered bank etc) and different governmental and non-governmental agencies. The movement of funds in form of interest and amortization payments needed proper management. Besides, there were big changes in the character of the international financial market with the emergence of euro banks and offshore banking centers and of various instruments, such as Euro bonds, euro notes and euro commercial papers. The nature of the movement of funds became so complex that proper management became a necessity and the study of international finance became highly of important.
Definition of international finance
International finance is the branch of economics that studies the dynamics of foreign exchange, foreign direct investment and how these affect international trade. Also studies the international projects, international investment and the international capital flow. International Finance can be broadly defined, as the study of the financial decisions taken by a multinational corporation in the area of international business i.e. global corporate finance. International finance draws much of its background from the preliminary studies in the topics of corporate finance such as capital budgeting, portfolio theory and cost of capital but now viewed in the international dimension.
International finance versus domestic finance
International finance is to a great extent, similar to domestic corporate finance. A domestic company takes up a project for investment only when the net present value of cash flows is positive and it shapes the working capital policy in a way that maximizes profitability and ensures desired liquidity. It is not different in case of international finance. Again, the financing decisions in respect of whether a domestic or an international company aims at minimizing the overall cost of capital and providing optimum liquidity. Domestic financial management is concerned with the costs of financing sources and the payoffs from investment. In domestic arena, movements in exchange rates are substantially ignored. But when we move outside of this purely domestic field, there is no way that we can analyze international financing and investment opportunities without an understanding of the impact of foreign exchange rates upon the basic model of financial management. However, international finance has a wider scope than domestic corporate finance and it is designed to cope with greater range of complexities than the domestic finance. The reasons are as follows:- * The...