BEC Wiley Module 4
According to Porter, the diamond elements, taken together, affect four factors that lead to a national competitive advantage. Those factors are:
1. The availability of resources and skills 2. The information that firms use to decide which opportunities to pursue with those resources and skills 3. The goals of the individuals within the firms 4. The pressure on firms to innovate and invest
Currency demand
A number of factors play a role in determining the demand for a country's currency and, therefore, in determining a country's exchange rate with the currencies of other countries. Five of the major factors are: a. political and economic environment b. relative interest rates c. relative inflation d. public debt level e. current account balance f. other factors
Foreign currency option contracts
Agreements that gives the right (option) to buy (call option) or sell (put option) a specified amount of a foreign currency at a specified (forward) rate during or at the end of a specified time period. 1. Under an FCO contract, the party holding the option has the right (option) to buy (call) or sell (put), but does not have to exercise that option; the exchange will occur at the option of the option holder. For example: A U.S. entity acquires an option (right) to buy euros, but does not have to buy the euros. 2. If the option is exercised, there is an exchange of currencies. 3. FCO contracts usually involve fees, which make them significantly more costly to execute than FCFX contracts.
foreign currency forward exchange contracts
Agreements to buy or sell a specified amount of a foreign currency at a specified future date at a specified (forward) rate. 1. Under an FCFX contract the obligation to buy or sell is firm; the exchange must occur. 2. This contract is an "exchange" because the contract provides for trading (exchanging) one currency for another currency. Example: A U.S. entity enters into an FCFX to pay U.S. dollars for euros.
other factors
In addition to the five major factors identified above, other generally less important factors including consumer preferences, relative incomes, and speculation play a role in determining demand for a currency and, therefore, its exchange rate with other currencies.
Comparative advantage
Comparative advantage exists when one entity has the ability to produce a good or service at a lower opportunity cost than the opportunity cost of the good or service for another entity.
political and economic environment
Currencies of countries that are politically stable and economically strong are more desirable than the currencies of countries with political turmoil and a risky economic environment. For example, investors are more likely to make investments in a politically stable country with a history of strong economic performance than a country with political unrest and a fragile economy. Consequently, there will be greater demand for the currency of the better political and economic environment.
A statement expressed in the form of "1 euro = $1.20" expresses a/an direct exchange rate, indirect exchange rate, or both?
Direct exchange rate
Foreign currency hedging instruments
Foreign currency hedging is accomplished primarily through the use of forward and futures contracts. Forward/futures contracts are agreements (contracts) to buy or sell (or which give the right to buy or sell) a specified commodity in the future at a price (rate) determined at the time the forward contract is executed. The most important types of forward contracts are: a. foreign currency forward exchange contracts b. foreign currency option contracts
Absolute Advantage
From an international economic perspective, absolute advantage exists when a country, business, individual or other entity (hereafter referred to as "entity") can produce a particular good or service more efficiently (with fewer resources) than another entity. When an entity has an absolute advantage, it uses fewer resources to produce a particular good or service than another entity.
Matching
Incurring equal amounts of receivables and payable in a foreign currency, thus resulting in a loss on either of the balances being offset by a concurrent gain on the other of the balances.
Opportunity Cost
Is the money value of benefits lost from the next best opportunity as the result of choosing another opportunity. If you choose to do one thing, the opportunity cost is the value of the benefit lost by not doing another thing that would have provided the next best benefit.
financial account
Reports the dollar amount of U.S.-owned assets abroad, foreign-owned assets in the United States, and the resulting net balance. It includes both government assets and private assets, and both monetary items (e.g., gold, foreign securities) and non-monetary items (e.g., direct foreign investments in property, plants and equipment).
capital account
Reports the dollar amount of capital transfers and the acquisition and disposal of non-produced, non-financial assets. Thus, it includes inflows from investments and loans by foreign entities, outflows from investments and loans U.S. entities made abroad, and the resulting net balance. Examples include funds transferred in the purchase or sale of fixed assets, natural resources and intangible assets.
current account
Reports the dollar value of amounts earned from the export of goods and services, amounts spent on import of goods and services, income from investments, government grants to foreign entities, and the resulting net (export or import) balance.
Protectionism
Such forms of protectionism benefit some parties while harming others: 1. Parties benefited Domestic producers—Retain market and can charge higher prices Federal government—Obtains revenue through tariffs 2. Parties harmed Domestic consumers—Pay higher prices and may have less choice of goods Foreign producers—Loss of market
Transfer Price
The amount (price) at which goods or services are transferred between affiliated entities; the related transactions are intracompany transactions
Firm strategy, structure, and rivalry
The conditions governing how companies are created, organized and managed and the nature of domestic rivalry. When a country has companies with well-developed strategies, different organizational structures, and intense domestic rivalry, that country tends to have a competitive advantage.
current account balance
The current account balance (in the balance of payments measure) of a country influences the exchange rate between the currency of that country and the currencies of other countries. A deficit in the current account of a country shows that it is spending more on foreign trade and related payments than it is receiving from foreign trading partners. This excess spending means that the country has a greater demand for foreign currencies than is demanded for the domestic currency by foreign parties. This excess demand for foreign currencies will lower the county's exchange rate with countries that have a favorable (net positive) current account balance with the domestic country.
Economic risk
The possible unfavorable impact of changes in currency exchange rates on a firm's future international earning power; for example, on future costs, prices, and sales. Exchange rate changes affect the price competitiveness of entities in countries for which the exchange rate changes.
exchange rate discount or premium
The difference at a point in time between the spot exchange rate and the forward exchange rate for two currencies. The discount or premium is computed as: [(Forward rate - Spot rate)/Spot rate] × [Months or days in year/Months in forward period]
forward exchange rate
The exchange rate between currencies existing at the present for future delivery (exchange).
spot exchange rate
The exchange rate between currencies for immediate delivery (exchange); the rate "on the spot."The exchange rate between currencies for immediate delivery (exchange); the rate "on the spot."
Factor conditions
The extent to which a country has a relative advantage in factors of production, including infrastructure and skilled labor. Through investment and innovation, a country can enhance its factor conditions.
Related and supporting industries
The extent to which supplier industries and related industries are internationally competitive. When related and supporting industries are highly developed, a country will have a comparative advantage over countries with less highly developed related and supporting industries.
relative inflation
The inflation rate in one country relative to the rates in other countries will influence the exchange rates between the currency of that country and the currencies of other countries. If the inflation rate in one country is consistently lower than the rate in another country, the purchasing power in the country with the lower inflation rate will be higher relative to the purchasing power in the other country. The currency that better retains its purchasing power tends to increase in value relative to currencies of economies with higher inflation. For example, higher inflation rates in the U.S. than in the EEU would result in U.S. consumers buying more relatively less expensive EEU goods, thus increasing the demand for euros and increasing its value relative to the dollar.
relative interest rates
The interest rates in a country relative to the rates in other countries will influence the exchange rates between the currency of that country and the currencies of other countries. If the interest rate in one country is higher than the rate in another country, foreign capital will flow into the country with the higher interest rate to earn the higher return. The demand for the currency of the country with the higher interest will be greater than the demand for the currency of the country with the lower interest rate and its exchange rate would be relatively higher. For example, if higher interest rates were available in the European Economic Union (EEU), U.S. investors would invest more heavily in the EEU, which would increase the demand for the euro and increase the value of the euro relative to the dollar.
public debt level
The level of deficit spending and the resulting level of public debt of a country influence the exchange rate between the currency of that country and the currencies of other countries. A country with a high level of public debt is likely to experience inflation, which will deter foreign investment and, thereby, weaken the country's currency relative to other currencies. Further, if government services its debt by increasing the money supply (called "monetizing debt"), even higher inflation will occur, causing a further decline in the country's currency exchange rate with other currencies.
Demand conditions
The nature of the domestic demand for an industry's product or service. A strong domestic demand enables firms to devote more attention to a good or service than can firms in countries without a strong domestic demand.
Translation risk
The possible unfavorable impact of changes in currency exchange rates on the financial statements of an entity when those statements are converted from one currency to another. Changes in exchange rates directly affect the translated value of income statement and balance sheet items.
Transaction risk
The possible unfavorable impact of changes in currency exchange rates on transactions denominated in a foreign currency, including accounts receivable, accounts payable, and other monetary accounts to be settled in a foreign currency.
Forecasted foreign currency- denominated transactions
The risk being hedged is the possibility that exchange rate changes will have an unfavorable effect on the cash flows associated with nonfirm but planned transactions to be settled in a foreign currency.
unrecognized firm commitments
The risk being hedged is the possibility that exchange rate changes will have an unfavorable effect on the fair value of a firm commitment for a future sale or purchase to be settled in a foreign currency.
Currency supply
The supply of a country's currency is determined by the country's fiscal and monetary policies. In the United States, the Federal Reserve Board (the "Fed") primarily determines the supply of currency through its control of monetary policy.
Principle of comparative advantage
The total output of two or more entities will be greatest when each produces the goods or services for which it has the lowest opportunity cost.
Withholding of taxes
To avoid foreign withholding taxes on cash payments for dividends, interest, and royalties by transferring cash in the form of a sales transfer price
avoiding import duties
To minimize import duties by minimizing transfer prices
circumventing profit repatriation restrictions
To overcome limits on profits that can be transferred out of a country in the form of dividends by moving profits through transfer prices
Cost-based
Where the transfer price is a function of the cost to the selling unit to produce a good or provide a service Characteristics: a. based on variable cost, variable and certain fixed cost, or full cost b. cost may be actual or standard cost c. commonly used when no external market exist for the good or service advantages: a. relatively simple to use b. less costly to implement than a negotiated price disadvantages: a. requires determining a cost-basis to use b. may encourage/facilitate inefficiencies in production of goods or provision of services
Transaction currency exchange risk
a foreign currency transactions may be i the form of: 1. importing (buying) 2. exporting (selling) 3. borrowing or lending with a foreign entity 4. investing in the securities of a foreign entity
Hedging
a risk management strategy, which involves using offsetting (or contra) transactions so that a loss on one transaction would be offset (at least in part) by a gain on another transaction (or vice versa).
Which of the following is the most likely result of imposing tariffs to increase domestic employment? a. A long-run reallocation of workers from export industries to protected domestic industries b. A short-run increase in domestic employment in import industries from export industries c. A decrease in tariff rates of foreign nations d. A decrease in consumer prices in the domestic market
a. A long-run reallocation of workers from export industries to protected domestic industries
An American importer expects to pay a British supplier £500,000 in three months. Which of the following hedges is best for the importer to fix the price in dollars? a. Buying British pound call options. b. Buying British pound put options. c. Selling British pound put options. d. Selling British pound call options.
a. Buying British pound call options. Since the American importer will be paying in British pounds, it would want an option to buy pounds in the future, thus, it would buy a call option to acquire British pounds.
Assuming that the real rate of interest is the same in both countries, if Country A has a higher nominal interest rate than Country B, then the currency of Country A will likely be selling at a a. Forward discount relative to the currency of Country B. b. Forward premium relative to the currency of Country B. c. Spot discount relative to the currency of Country B. d. Spot premium relative to the currency of Country B.
a. Forward discount relative to the currency of Country B.
A domestic entity may be exposed to foreign currency exchange rate risk if it engages in which, if any, of the following kinds of transactions that are denominated in a foreign currency? a. Import/Export Transactions yes; Lending/borrowing transactions Yes b. Import Export Transactions yes; Lending/borrowing transactions No c. Import/Export Transactions no; Lending/borrowing transactions Yes d. Import/Export Transactions no; Lending/borrowing transactions No
a. Import/Export Transactions yes; Lending/borrowing transactions Yes A domestic entity that engages in import/export transactions and/or in lending/borrowing transactions that are denominated (to be settled) in a foreign currency may be exposed to the risk associated with changes in the exchange rate between the domestic currency and the foreign currency. (Only if an import or export transaction were initiated and settled at the same time could exchange rate risk be avoided.) The exchange rate risk derives from the changing rate of exchange between two currencies. Therefore, if a transaction obligation denominated in a foreign currency is incurred at one time and settled at a later time, the dollar cost of settlement may be more (or less) than the dollar cost would have been when the transaction was initiated. For an import transaction, the risk is that the dollar cost of payment may be more; for an export transaction, the risk is that the dollar amount received may be less. For a lending transaction, the risk is that the dollar amount received in repayment may be less (and the dollar amount in interest received may be less); for a borrowing transaction, the risk is that the dollars needed to repay may be more (and dollars of interest paid may be more.)
Dumping Issue
a. In the context of international economics, "dumping" is the sale of a product in a foreign market at a price that is either a lower price than is charged in the domestic market or lower than the firm's production cost. b. Dumping may have an adverse effect on the producers of the good that is dumped in the country that receives the good because the price charged for dumped goods may be less than the cost of production in the import country. c. Under World Trade Organization (WTO) policy, dumping is not considered illegal competition unless the importing country can demonstrate the negative effects on domestic producers. d. Importing nations often counter dumping by imposing quotas and/or tariffs on the dumped product, which has the effect of limiting the quantity or increasing the cost of the dumped good.
U.S. travelers to Europe usually exchange dollars for euros. Assuming that the euro supply is static, how does this currency exchange, considered in isolation, affect the demand for euros and the exchange rate? a. It increases demand and increases the dollar price of euros. b. It decreases demand and increases the dollar price of euros. c. It increases demand and decreases the dollar price of euros. d. It decreases demand and decreases the dollar price of euros.
a. It increases demand and increases the dollar price of euros.
A U.S.-based company decides to invest capital in an emerging market operation that has a lower expected return rate compared to the expected return for an alternative domestic operation. Which of the following statements correctly supports this decision? a. Management expects the U.S. dollar to decline in value relative to the foreign location's currency. b. Management expects inflation to increase in the emerging market compared to the U.S. inflation rate. c. Management expects inflation to decrease in the U.S. compared to the foreign location's inflation rate. d. Management expects the U.S. dollar to strengthen in value relative to the foreign location's currency.
a. Management expects the U.S. dollar to decline in value relative to the foreign location's currency. Higher inflation in the emerging market relative to the U.S. inflation rate would tend to increase the demand for U.S. dollars and increase the value of the dollar relative to the foreign currency. This would result in the foreign currency converting to fewer dollars when repatriated to the U.S. than before the increased inflation, which would serve to reduce the total return rate on the investment.
A multinational company operates a production facility in Country A and a distribution outlet in Country B. The tax rates are 40% in Country A and 50% in Country B. The production facility sells the goods to the distribution outlet, both of which are wholly owned by the multinational company. The internal sale of goods occurs at a "transfer" price set by the multinational company. Assuming no nontax considerations and no interference from the tax authorities of the two countries, the company should a. Maximize the transfer price. b. Minimize the transfer price. c. Establish a transfer price that results in the same profit margin for both operations. d. Use a transfer price based on the market price for the product that other producers charge.
a. Maximize the transfer price. Since the tax rate is lower in Country A, the multinational parent company should maximize the transfer price between Country A and Country B. For every dollar of transfer price recognized in Country A, as opposed to being recognized in Country B, the multinational will benefit by .10 in taxes saved.
A put is an option that gives its owner the right to do which of the following? a. Sell a specific security at fixed conditions of price and time. b. Sell a specific security at a fixed price for an indefinite time period. c. Buy a specific security at fixed conditions of price and time. d. Buy a specific security at a fixed price for an indefinite time period.
a. Sell a specific security at fixed conditions of price and time. A put is an option that gives its owner the right to sell a specific security at fixed conditions of price and time. A put option is a contract that gives the owner the right, but not the obligation, to sell a specified amount of an underlying asset (e.g., security) at a specified price within a specified time.
A short-term speculative rise in the worldwide value of the domestic currency could be moderated by a central bank decision to a. Sell domestic currency in the foreign exchange market. b. Buy domestic currency in the foreign exchange market. c. Sell foreign currency in the foreign exchange market. d. Increase domestic interest rates.
a. Sell domestic currency in the foreign exchange market.
What is the effect when a foreign competitor's currency becomes weaker compared to the U.S. dollar? a. The foreign company will have an advantage in the U.S. market. b. The foreign company will be disadvantaged in the U.S. market. c. The fluctuation in the foreign currency's exchange rate has no effect on the U.S. company's sales or cost of goods sold. d. It is better for the U.S. company when the value of the dollar strengthens.
a. The foreign company will have an advantage in the U.S. market.
Freely fluctuating exchange rates perform which of the following functions? a. They automatically correct a lack of equilibrium in the balance of payments. b. They make imports cheaper and exports more expensive. c. They impose constraints on the domestic economy. d. They eliminate the need for foreign currency hedging.
a. They automatically correct a lack of equilibrium in the balance of payments.
A company considers investing $20 million in a foreign company whose local currency is under pressure. The company suspects that the exchange rate may fluctuate soon. The exchange rate at the time of the investment is 2.57 to $1.00. After the investment, the exchange rate changes to 3.15 to $1.00. What is the change in the value of the company's investment in U.S. dollars? a. 18.4% increase b. 18.4% decrease c. 22.6% increase d. 22.6% decrease
b. 18.4% decrease The percentage change is computed by first converting the initial investment to its foreign currency value at the date of investment; that is: $20,000,000 × 2.57 = 51,400,000 FC units. Next, the dollar value of the investment is determined after the change in exchange rate; that is: 51,400,000 FC / 3.15 = $16,317.400. Then the percentage change in the dollar value of the investment is determined; that is: $16,317,400 / $20,000,000 = 81.59%. Finally, since the dollar value of the investment after the change is exchange rate is only 81.59% of its prior value, there is a loss of 100.00% - 81.6% = 18.4% (decrease). [Alternative percentage calculation: $20,000,000 - $16,317,400 = $3,682,600 / $20,000,000 = 18.4% (decrease).]
Which of the following changes would create pressure for the Japanese yen to appreciate relative to the U.S. dollar? a. An increase in inflation in Japan. b. A change in U.S. tastes in favor of Japanese goods. c. An increase in U.S. interest rates. d. A change in Japanese tastes in favor of U.S. goods.
b. A change in U.S. tastes in favor of Japanese goods.
Which of the following is not a common basis for establishing a transfer price between affiliated entities? a. Costs incurred by the selling affiliate. b. Costs incurred by the buying affiliate. c. Fair value based on the price in the market. d. Price negotiated between affiliates.
b. Costs incurred by the buying affiliate. Costs incurred by the buying affiliate is not a common basis for establishing a transfer price between affiliated entities. The transfer price would constitute an element of cost in determining (total) costs incurred by the buying affiliate; costs to the buying affiliate would not establish the transfer price paid by the buying affiliate.
In the long run, the imposition of an import quota on a commodity is likely to provide the greatest direct benefit to a. Domestic consumers of the commodity. b. Domestic suppliers of the commodity. c. Foreign consumers of the commodity. d. Foreign suppliers of the commodity.
b. Domestic suppliers of the commodity. An import quota will restrict the quantity of a commodity that can be brought into the country from foreign providers. This limitation on foreign quantity will enable domestic suppliers to sell more of the commodity produced domestically and at a higher price.
From an international perspective, the U.S. economy is a. a closed economy b. an open economy c. a self-sufficient economy d. a unilateral economy
b. an open economy
Which of the following is not an account used by the U.S. to account for transactions and balances with other nations (i.e., those not in the U.S. balance of payments statement)? a. current account b. non-current account c. capital account d. financial account
b. non-current account
Which of the following statements regarding international transfer pricing is/are correct? I. Firms with operations in multiple nations can manipulate earnings through transfer pricing. II. The transfer price preferred by a foreign subsidiary manager may be different than the transfer price that maximizes consolidated profits. a. Only I is correct. b. Only II is correct. c. Both I and II are correct. d. Neither I nor II is correct.
c. Both I and II are correct Firms can manipulate earnings by using transfer pricing that results in a greater amount of profit attributed to a country with a lower tax rate and lesser profit attributed to a country with a higher tax rate. As a consequence, tax expense would be reduced and income increased for the consolidated entity. In addition, because unit profits are often used to evaluate performance, subsidiary managers will prefer a transfer price that maximizes their unit profits, whether or not it maximizes consolidated profits.
A significant decline in the exchange rate of the U.S. dollar generally will have which of the following effects? a. It will hurt all U.S. businesses. b. It will benefit U.S. importers. c. It will benefit U.S. exporters. d. It will benefit all U.S. businesses.
c. It will benefit U.S. exporters.
Globalco, a U.S. parent, has subsidiaries in Germany (Gerco) and in England (Engco). Gerco produces products that are sent to Engco for final assembly and packaging. Engco then sends the goods to Globalco for retail sales in the U.S. The effective income tax rates faced by each of the companies is: Globalco 22% Engco 18% Gerco 20% If the objective of transfer prices is to minimize income taxes, which of the following policies, within legally acceptable ranges, should Globalco adopt with respect to the transfer prices? a. Minimize transfer price from Gerco to Engco and minimize transfer price from Engco to Globalco. b. Maximize transfer price from Gerco to Engco and maximize transfer price from Engco to Globalco. c. Minimize transfer price from Gerco to Engco and maximize transfer price from Engco to Globalco. d. Maximize transfer price from Gerco to Engco and minimize transfer price from Engco to Globalco.
c. Minimize transfer price from Gerco to Engco and maximize transfer price from Engco to Globalco. Since Engco has the lowest tax rate, the lowest income tax would be achieved by the highest income reported by Engco. That would be achieved if Engco had the lowest cost (minimum transfer price from Gerco) and the highest sales price (maximum transfer price to Globalco). Therefore, a minimum transfer price to Engco and a maximum transfer price from Engco would be correct.
Generally, exchange rates are determined by a. Each industrial country's government b. The International Monetary Fund c. Supply and demand in the foreign exchange market d. Exporters and imports of manufactured goods
c. Supply and demand in the foreign exchange market
A company manufactures goods in Esland for sale to consumers in Woostland. Currently, the economy of Esland is booming and imports are rising rapidly. Woostland is experiencing an economic recession and its imports are declining. How will the Esland currency, $E, react with respect to the Woostland currency, $W? a. The $E will remain constant with respect to the $W. b. The $E will increase with respect to the $W. c. The $E will decline with respect to the $W. d. Changes in imports and exports will not affect currency changes.
c. The $E will decline with respect to the $W.
In which of the following situations would it be advantageous for a country to export a manufactured product? a. The country's government prefers to be self-sufficient. b. The country has an absolute advantage in the production of a complementary product. c. The country has a comparative advantage in the production of the item. d. The country has a higher opportunity cost for production of the item.
c. The country has a comparative advantage in the production of the item.
Which of the following best describes "transfer pricing?" a. The cost to convert financial statements from one country's currency to another country's currency. b. The amount of sales denominated in a foreign currency. c. The determination of the amounts at which transactions between affiliated entities will be recorded. d. The amount of taxes paid on amounts earned in foreign countries.
c. The determination of the amounts at which transactions between affiliated entities will be recorded.
The concept of comparative advantage in international business activity is based on which one of the following? a. differences in relative absolute costs b. law of diminishing returns c. differences in relative opportunity costs d. differences in relative cost of labor
c. differences in relative opportunity costs
Which of the following typically is not a reason for international economic activity by a U.S. entity? a. market diversification b. resource acquisition c. protection of domestic manufacturing capabilities d. reduce production costs
c. protection of domestic manufacturing capabilities
Which one of the following would not be an argument made by U.S. unions in favor of trade protectionism? a. to protect start-up industries b. to protect strategic industrie c. to increase imports d. to reduce unemployment
c. to increase imports
Assume a U.S. company purchases shares of a French company for 1,000,000 euros on March 1, Year 1, when the exchange rate was 1 E = $1.10. The investment is classified as available-for-sale by the U.S. company. After holding the shares for eight months, it sold the entire investment in the foreign market for 1,200,000 euros when the exchange rate was 1 E = $1.23. What dollar amount of total investment gain or loss would the U.S. company recognize? a. $ 26,000 b. $130,000 c. $156,000 d. $376,000
d. $376,000 The total gain recognized is the difference between the dollar value cost of the investment and the dollar value of the proceeds from sale of the investment. The calculation of the total gain would be: Investment cost 1,000,000 E x $1.10 = $1,100,000 Investment proceeds 1,200,000 E x $1.23 = 1,476,000 Total Gain (in dollars) $376,000
Which of the following items represents a reduction in the balance of payment accounts for the United States? a. Exports of services to residents of foreign nations b. Exports of services to residents of foreign nations c. Foreign purchases of assets in the United States d. Import of assets from foreign countries
d. Import of assets from foreign countries
Dumping
is the sale of a product in a foreign market at a price that is either lower than is charged in the domestic market or lower than the firm's production cost
direct exchange rate
the domestic price of one unit of a foreign currency. For example: 1 euro = $1.10
indirect exchange rate
the foreign price of one domestic unit of currency. For example: $1.00 = .909 euro ($1.00/$1.10).
when a currency becomes weaker - or depreciates
the value of a currency has decreased relative to another currency; it takes more of that currency to buy another currency (or less of another currency to buy that currency).
When a currency becomes stronger- or appreciates
the value of a currency has increased relative to another currency; it takes less of that currency to buy another currency (or more of another currency to buy that currency).
negotiated price
where the transfer price is baed on a negotiated agreement between buying and selling affiliates characteristics: a. commonly used when no external market exist for the good or service advantage: a. preserves each manager's autonomy disadvantages: a. May be more costly to implement than a predetermined cost-based transfer price b. May take excessive time to negotiate a transfer price c. Performance measures may reflect negotiating ability, not performance
Market price-based
where the transfer price is based on the price of the good or service in the market (if available): characteristics: a. commonly used when an external market for the good or service exists b. typically a valid "arm's-length" basis for transfer pricing advantage: a. avoids using cost-based prices, which may incorporate inefficiencies disadvantage: a. may be difficult to obtain a market-based price