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International Finance

1. Please answer the following questions.

a. Define exposure, differentiating between accounting and economic exposure. What role does inflation play?

b. Describe at least three circumstances under which economic exposure is likely to exist.

c. Of what relevance are the international Fisher effect and purchasing power parity to your answers to parts a and b?

d. What is exchange risk, as distinct from exposure?

Solution Preview

a. Define exposure, differentiating between accounting and economic exposure. What role does inflation play?

ANSWER. Accounting exposure results when exchange rate changes alter the home currency value of foreign currency denominated assets and liabilities. The big debate in the accounting profession centers on which foreign currency assets and liabilities should be translated at the current rate (these assets and liabilities are exposed because their HC values change in line with the exchange rate) and which assets and liabilities should be translated at the historical rate (the rate in effect at the time the asset was acquired or the ...

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