Business and Financial Environment
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Business and Financial Environment I
Assignment
Part 1
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Contents
Executive Summary
The global factors
Changes in the world economy
Organisation strategy
Types of costs
Demand elasticity
Appendices
References
Bibliography
Executive Summary
The global economy has increased the interdependence of national economies. Multinational companies dominate the international economy. The integration of the financial markets and the internet technology give access to investments in foreign countries.
As investors increasingly buy assets in a high yield foreign currency the exchange rates in this specific currency rises. This leads to a reduction in exported and an increase in imported goods. The balance is easily disturbed and governments find it increasingly difficult to control rising inflation. The economic relations between countries are very complex as each country has its monetary policy. Japan for example exerts a strong control on the exchange rates due to a high export percentage, whereas the U.S. does not use the currency operations as a tool of monetary policy.
Companies are confronted with different cultures and markets and have to differentiate their products in order to maximize their profit in clearly separated market segments. Investments in foreign countries have become easier, and multinational companies benefit from economy of scales and low cost production using the cheapest resources available.
The global factors
In a global economy, multinational companies independent of national government, dominate the international economy. This increases the interdependence of nations as each multinational company invests their assets in several countries. Those companies respond effectively to differing regional demand. Furthermore, they benefit from economy of scales and low cost production using the cheapest resources available. The global economy has opened the market boundaries to foreign capital, making investment in a foreign currency accessible.
The exchange rate is determined by the demand in a currency (export) and the supply of currency (import) as companies need currencies to trade on the open market. The exchange rate fluctuates linked to the interest rate. Furthermore, technology has made the access to investment opportunities in foreign countries easier as investors can now trade directly at foreign stock markets. The integration of financial markets allows investors to hold their money in a foreign currency.
Demand of currency and exchange rate (Siilats, 2002)
Foreign investors, who want to hold their assets in a high-yielding currency with a strong growth potential, will invest into a currency with a high exchange rate. Therefore, the demand in this currency will increase and because of the increase in demand, the currency will be appreciated. Additionally, the appreciation of the currency linked to an increase of the interest rate will trigger inflation.
A high exchange rate in a country’s currency will boost imports as goods and services in foreign countries are cheaper. However, it will lessen exports, which will affect the Gross Domestic Product (GDP). In particular the tourism and retail industries will benefit from a high exchange rate in another currency. This will have an effect on the demand in foreign countries and an increase in GDP for the affected countries.
However, there are differences in the way governments deal with exchange rates fluctuations. Since 1992, the UK has adopted a monetary policy strategy of floating exchange rates and inflation forecast targeting (Bank of England, 2008).
The U.S. monetary policy does not have targets for the exchange rate. In case the dollar depreciates the Fed will sell foreign currency to absorb some of the dollars selling pressure (Federal Reserve Bank, 2004).
The European monetary policy is similar to the U.S. policy, but transactions in Euro against foreign currencies are only used for fine-tuning purposes, in order to manage the liquidity situation in the market and control interest rates (European Central Bank, 2006).
The Bank of Japan is depreciating their currency by creating an excess quantity of their currency (e.g. open-market trade). In Japan’s case, the rate of depreciation of the exchange rate is increased when inflation and/or output are below their target values (Bank of Japan, 2001).
Due to the global economy, increased human migration and international movements of capital in integrated financial markets the governmental efforts to dampen inflation by increasing or decreasing their spending are not having the desired effect anymore.
Changes in the world economy
The current situation with a weak dollar, the credit crunch, the increasing inflation and the housing market crisis as well as a rising unemployment rate has brought the U.S. economy into a recession. In the global economy, the U.S. is a powerful competitor and many foreign countries hold assets in U.S. dollars. Significant changes in the U.S. economy will strongly influence the world economies. As an example, rich-oil states are considering pegging their currencies to the Euro instead of the dollars because the combination of rising oil prices and the falling dollar is distorting their economies and increasing inflation (The Economist, 22 Nov. 2007). Furthermore, Eastern countries have joined the European community increasing human migration in Europe. In Asia, peasants migrate from rural to urban areas. Human migration is having a negative influence on employment.
Rising food and oil prices keep eroding consumer spending power, which has a negative effect on consumer confidence. The credit crunch affected financial institutions and mortgage lenders as well as the construction business. The services industry, especially firms in the property and finance sector are struggling.
As financing is required to build new housing, and banks are reluctant