Question

An MNC expects equal amount of net cashflows in two foreign currencies. The MNC's exposure is...

An MNC expects equal amount of net cashflows in two foreign currencies. The MNC's exposure is relatively high if:

Select one:

a. if PPP holds

b. The two currencies are positively correlated

c. If interest rate parity is violated

d. The two currencies are negatively correlated

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Homework Answers

Answer #1

Let us discuss the meaning of correlation,

Correlation is how both the variables move in relation to one another . This is if two currencies are positively correlated they move the same direction and if they are negatively correlated they move in the opposite direction

Accordingly when we have two currencies X and Y such that if X and Y are positively correlated and if X appreciates then Y also appreciated and if they are negatively correlated then if X appreciates then y depreciates

If they are positively correlated the firm is at a greater risk that both may depreciate at a time. If they are negatively correlated they hedge against each other .

PPP and IRP help the firm to make arbitrage profit and they are not too much relevant here.

Hence the best option is if both the currencies are positively correlated then the firm has a greater risk.

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