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32. AAA and BBB both want to borrow $50 million for five years and have been...

32. AAA and BBB both want to borrow $50 million for five years and have been offered the following rates per annum: Fixed rate floating rate AAA 8.0% LIBOR BBB 6.5% LIBOR Which of the following statements is correct under the comparative advantage argument if they want to transform the interest rates between fixed and floating?

A) AAA borrows at LIBOR and BBB at 8.0%, and then they enter into a swap B) AAA borrows at LIBOR and BBB at 6.5%, and then they enter into a swap C) BBB borrows at 6.5% and AAA at 8%, and then they enter into a swap D) AAA borrows at 8.0% and BBB at LIBOR, and then they enter into a swap

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Answer #1

ANSWER DOWN BELOW. FEEL FREE TO ASK ANY DOUBTS. THUMBS UP PLEASE.

When a firm has an advantage in both floating and fixed annual rate, it is said to have a Comparative advantage then compared to another firm.

Otherwise, it is said to have an absolute advantage.

When a firm(BBB) has a comparative advantage we need to look in which rate it has the greater advantage and it needs to borrow in that currency.

B has a lower fixed rate, hence it will borrow 6.5%

&

Therefore AAA will borrow in LIBOR.

Answer: B) AAA borrows at LIBOR and BBB at 6.5%, and then they enter into a swap.

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