Question

with microeconomics in mind You are the CFO of a U.S. firm whose wholly owned subsidiary in Mexico manufactures component parts for your U.S. assembly operations. The subsidiary has been financed by bank borrowings in the United States. One of your analysts told you that the Mexican peso is expected to depreciate by 30 percent against the dollar on the foreign exchange markets over the next year. What actions, if any, should you take?

Answer 1

Following action can be taken by the CFO:

1. Since Peso is depreciating against the US dollar, then it will make the export from Mexico to USA to be cheaper. It means that the volume of exports can be increased in the coming year when the Peso is expected to be depreciated against the Dollar

2. Real value of the US Dollar, will also increase. In this regard, the firm has to pay the higher real value of the US dollars to the bank. In this regard, the firm can accelerate or repay more funds in this year, to save the payment of higher real value in the next year.

3. Firm can apply the hedging strategy using derivatives such as futures and options to eliminate the exchange rate risk of the transaction between the wholly owned subsidiary and the parent company.