Executive Summary

This report is about globalization trends within companies and implication of exchange rates. It has been found from this analysis that healthy global competition might have, for instance, depleted the connection between trade volumes and movements of exchange rates, as further severe competition aggravates pricing-to-market attitude of exporters. Exchange rates of countries affect different business decisions of firm like marketing, financial and production decisions. The marketing decisions are linked with prices of products offered by companies with respect to change in currency of countries. The production decisions of firms are related to investment of business done by firm in country. Countries prefer investing in countries where there is weak currency. In addition to this, the profitability of organizations is affected by exchange rate fluctuations. Some of the organizations having part of exchange rate can mitigate the decline in profits with the help of decreasing in export costs

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

1.Introduction

Globalization has led to a new arrangement of global trade, finance and production, and has had a straight effect on global trade, competitiveness, flows of finance and comparative prices. Moreover, it has generated alterations in dynamic cooperation of economic elements, involving perhaps the way alterations influence the economy in the exchange rate. (Ehrmann et al, 2011). Further recent influx of financial and real globalization which began nearly mid of 1980s, operated by demolishing of the barriers of trade, liberalization of major advancement of technology and capital controls has carried significant changes in both trade and production patterns. Tasks executed by an organization in the past have turned out to be tradable owing to recession in transaction costs and interaction (Aghion et al, 2009). This report is about analysis of implications of exchange rate alterations for an International British corporation. In this analysis, implication of exchange rate has been analyzed through identifying impact of exchange rate changes in various decisions of firms like financial, production and marketing. The report also deals with ways through which multinational firms can enhance their profits considering exchange rates. In the end, conclusion is provided.

Moreover to straightly creating global trading and production patterns, economies might also have affected by globalization in more appropriate ways by changing multiple global transmission mediums. Specifically, it seems to have altered the effects of movements of exchange rate on economic production. From the prospect of policy, the comprehension of altering connection between economic production and exchange rates is very pertinent for euro region, given its comparatively high level of openness than other core economies, at both country and aggregate levels. An evaluation of viable alterations in this connection is important to suitably assess the possible effect of financial policy actions. Moreover, besides being an unconventional origin of shocks, exchange rate might behave as automatic ballast also and have an act in settlement of international inequalities (Diebold, 2012). However, healthy global competition might have, for instance, depleted the connection between trade volumes and movements of exchange rates, as further severe competition aggravates pricing-to-market attitude of exporters (Zhao, 2010). Likewise, the increased import content of export linked to globalization likely to minimize the impact of change of exchange rate, as the effect on prices of export is slightly counterbalance by change in imported inputs’ prices. While, large number of competitions may indicate that importers respond more heavily to changing corresponding prices between various suppliers, hence maximizing the trade flow’s responsiveness to alterations in exchange rate. Furthermore, lower costs of trade, by creating access simpler for foreign markets, might contribute also to maximizing the trade’s sensitivity along substantial margin, such as via exit and entry. As an outcome, the comprehensive effect of globalization on how exchange rate changes impact economy relies on correlative strength of such various elements, and hence can be evaluated only from a factual point of view (Goldberg and Campa, 2010).

Multination companies (MNCs) are global business corporations. The maximization of shareholder’s wealth is the main target of multinational companies. It is expected from the managers of multinational companies that they make such decisions which are helpful in increasing the stock price and help the shareholders, which is equivalent to targets of managers hired by domestic corporations (Fidrmuc and Korhonen, 2010). Such types of decisions which are taken to increase the worth of multinational companies may try to import products or services from foreign producer or export services to foreign countries. While most of them identify additional foreign opportunities and finally in foreign countries create ancillary (Dunning, 2012).

One important element for majority of the corporations’ particularly multination companies is the fluctuation of exchange rate. There are various methods to manage such kind of fluctuation which whole have same objective to minimize the losses of foreign exchange and minimize the fluctuation of cash flow (Desai et al, 2009). There are two types in which the exchange rate can be divided, unexpected and expected changes. Generally, organizations are able to handle an expected exchange rate while it becomes more difficult for the organizations when an unexpected change occurs. Unexpected instability in exchange rate is for calculating the positive impact on multination corporations of this change, however expected instability calculates the negative impact on the company (Moran, 2014).

Few of the major corporations of United Kingdom have recognized major effects from general currency despite they are situated external top the euro-zones, also have transferred their respective accounting to euro. As a result, pressure is exerted on small and medium sized enterprises (SMEs) to encounter the expense of risk potential losses or running dual currency mechanisms (Kotab et al, 2011). It is stated by Aggarwal and Harper (2010) that the organizations of United Kingdom have had to turn out to be more euro-literate whose trade in involved in European Union. It is argued by them that it is much better to accept transaction costs and currency risk by pricing, tendering and billing in euro as compared to holding on the risk losing market share and pound sterling pricing. It is stated by Keller and Yeaple (2009) that the biggest accumulations in minimized transaction costs are discovered where there are less advanced banking systems and transactions are small. Hence UK has complex systems, the accumulations are known to be near to 0.1% of GDP and the cost is estimated to be 30 billion pounds of changeover for joining EMU. Minford measures that it can be said that gain in minimized transaction expenses and expense of joining EMU can be a gain of zero-sum. The price transparency’s effect has been reflected in for instance an industry of pesticide, where the providers of United Kingdom had to lower their price completely in 2002 to contest against continental Europe. The prices were dropping inside the whole industries as the transparency of euro-zone washed its approach over UK (Frenkel and Johnson, 2013). However, UK could achieve theoretical gain for enterprises if they had joined EMU. It is founded in the research in the year 2006 that 56.7% of the exporters of United Kingdom would deny to Euro (Lane and Shambaugh, 2010).

 

1.1.Marketing Decisions

The demand for products can be affected by changes in exchange rates both locally and internationally. For example, price competitiveness issues for exporters can be created due to strengthening of country’s currency. In contrary to this, due to strengthening of country’s currency, importance can get benefit (Alvarez et al, 2009).

The economic performance of multinational corporations is affected by prices and prices of products offered by firms are highly affected by exchange rates. The direct impact is due to the effect on prices of import that is reverted along to chain of prices to prices offered to consumers. These changes in prices result in significant indirect impact through their effect on real income and spending power that impacts overall pressures of price (Rahman and Uddin, 2009).

The pricing behaviour of international firms is affected by higher integration of market and competition that exporters face. At one side, producers are pushed for adjusting their mark-ups due to increased pressure of competition and they start moving towards pricing strategies of local currency for reducing the impacts of negative volume. The structural variations linked with globalization may impact exchange rate in different ways. At one side, reduction in incentive for defending shares of international market can be experienced by companies in case of reduced trade costs environment and in this case there is higher exchange rate. With increased integration of trade strategiccomplementaritiesin price setting of exporters’ price might be fostered (Dixon et al, 2010). Usually, decisions related to pricing of firms rely on prices of their international competitors in addition to their own marginal costs. For ensuring less deviation from competitors, demand curve of these companies will depict a variable elasticity in exchange rate on the basis of extent of competition. In case of high competition, mark-up will be varied and they will charge fewer pricesdue to exchange rate change. Due to enhanced trade integration this behaviour is likely to be enhanced, so this can result in insulation of import prices from movements of exchange rate (Cline and Williamson, 2009).

The impact of exchange rate changes is specifically high in case of new states of European Union and it is lower in case of exports to Asian countries (Yamamoto et al, 2010).

1.2.Production Decisions

The production decisions of multinational firms are significantly affected by exchange rate of different countries. Companies usually prefer to initiate production in countries where there is weak currency. This actually helps those firms in spending low investment on their production activities.Usually, export-oriented companies are more likely to get impact by movements of exchange rate, because of having greater direct valuation impact on revenue of export as compared to substitution effect in local market (Yau and Nieh, 2009). It has been found by Lin (2012) that in US and Japan, manufacturing companies are more focused towards analyzing exchange rates in case of deciding for starting production in specific country. It has been found that there is positive relationship between simulativeimpacts of depreciation on revenue share of industry from export. In contrary to this, there is negative relation in case of having reliability on imported inputs (Engel, 2013).

Exchange rates affect production decisions of firm with respect to increasing or decreasing the cost of imported raw material and component parts. Companies usually prefer to buy raw materials and components parts from countries in which there is weak currency. This helps firms in buying raw material and components parts in lower prices.Falling exchange rates may prompt the government to introduce counter-inflationary policies which may decrease domestic demand (Jamal and Sundar, 2011)..The production decisions of firms are also affected by exchange rate in a way that with the help of lower exchange rates or weak currency of foreign country, companies take decision of entering in to foreign market. An increase in tax rates results in shifting of IS curve towards left and decrease in equilibrium level of output as well as interest rate of equilibrium.A falling exchange rate can lead to inflationary pressures within an economy, therefore increasing production costs (Web Chapter 2, n.d)

 

1.3.Financial Decisions

The financial decisions of multinational firms operating in Britain are affected by exchange rate of country. Specifically, the exchange rate of country affects the sourcing of funds by companies. Like, in case of sourcing funds both through debt or equity, exchange rate significant affects this decision of firm. In addition to this, firms have to be involved in cross-border remittance of firms, so there is also high involvement of exchange rates of countries. In order to operate in different international countries, firms have to get significant knowledge about exchange rate of other countries. This helps in effectively remitting the firm in other countries (He et al, 2012).

Particularly, in case of low trading costs the entrance and exit from foreign market become easy. That is why, in the situations where there is adverse movement of exchange rate, an organization ca even select to exit temporarily from the foreign markets rather than decreasing margins of profit to protect the presence of market, as re-entry to the export market can be made in an easy way if the exchange rate makes a movement in the most desirable direction. Along with it, more powerful pressures from the countries with less cost are responsible for making average mark-ups of producers to get reduced. Because of this, there can be reduction in the quality of exporters to cope up with the strategies of pricing-to-market with the help of differences in mark-ups, at least when there is adverse movement of exchange rate, therefore causing an increment in the ERPT (Deaton and Dupriez, 2011).

2.Measures taken by companies to increase profitability

Profitability can be affected by alterations in the exchange rates of an organization in different ways. For instance, any admiration can cause loss in the competitiveness of international cost of an exporting organization. As a consequence, it tends to decline the profit and earnings and in the export volumes. Some of the organizations having part of exchange rate can mitigate the decline in profits with the help of decreasing in export costs (in domestic currency), therefore it cause mitigation in the volumes with the help of declining margins in the exports. At that instant, appreciation can decrease the price of imported intermediates; therefore improve the profitability of organization (Richards et al, 2012). Even those organizations who are not directly involved in global transactions may see that their profits are getting influenced by fluctuations in the exchange rates because of the competition in the foreign organization in domestic market. Therefore there is a lot of dependency of entire influence of exchange rate onto the limit to which there is involvement of organization in global transactions, either on output or input, and on the competitive environment in which operations of organization is performed. Along with this, organizations can also extract some component of exposure of exchange rate – in the short to medium run – with the help of hedging techniques. Different channels can be affected by enhanced globalization. Enhanced trade integration in most of the cases means that greater number of share of sales revenue of an organization originate from the sales done on international level, therefore it amplify the negative influence of admiration on profits (Kutty, 2010). At that same instant, penetration of domestic market through foreign organization cause more competitive environment with enhanced substitutability in between imported and domestic items. This influence can also change the negative profitability influence of appreciation. While contrasting, enhanced intermediate sourcing inputs because of decreased prices of trading and because of low-cost developers the profit decrement influence of exchange rate appreciation can also be decreased. Although, enhanced competition can also case greater number of share of cost decrements which is arose through appreciation being carried towards customers, therefore making limits of the positive influences on margins (Xing, 2012).

The literature on the exposure of exchange rate of organization has given the proof for important variations in cross-country, with the entire exposure seeming to be low. Previous researches have proven that profits of an organization in the US are very low. Especially, there is less contemporaneous link in between the stock returns and exchange rates of multinational organizations of the US (Jongwanichand Kohpaiboon, 2013). As proved by Agrawal et al (2010) for example, only 15 from 287 multinational organizations of the US display some important exposures of exchange rate which gets incremented along with the share of some foreign operations. The literature gives proves for other countries with power exchange rate exposure. For example in Japan and Canada, as identified by Engel et al (2015) there is more important exposure of exchange rate with the help of industry returns as compared to stock returns. The conclusions made by the multinational organizations of Japan have also been supported by Yilmaz (2012) Although on large countries sample, both in the stage of development or developing, Bénassy-Quéré et al (2011) have proven that basically for the industries value, exchange rates do not matter this much. It has been seen that empirical research do the favour of the concept the fluctuations in the exchange rates influence the wealth of shareholder in the case when there are non-US stocks. Along with it, according to empirical research, the patterns of risk exposure are mainly industry-related and they are likely to be different from the time horizon.

Figure: Impact of a 10% appreciation on earnings growth after one year

 

Source: (Dixon et al, 2010)

3.Conclusion

It can be concluded from above analysis that globalization or the maximization of international linkage of economies via financial linkage, production and trade is not a new although complex aspect. During the initial stages of the process of globalization, the drop of cost of transportation and minimization in the barriers of trade allowed the geographical disjunction of consumption and production, contributing to further methodical global resource allocation and comprehensively better productive results for developmental countries. The British corporations have to face various implications due to change in exchange rate of countries. These implications can have an impact on different decisions of firm like marketing, financial and production decision. In order to enhance profits of firm, there is a need of focusing towards exchange rates of countries in which there is a need of operating.

 

 

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