Definition of International Finance
nations. Without a solid finance measure, all nations would
 International finance is the examination of institutions,
practices, and analysis of cash flows that move from one
country to another.
 It mainly discusses the issues related with monetary
interactions of at least two or more countries. International
finance is concerned with subjects such as exchange rates of
currencies, monetary systems of the world, foreign direct
investment (FDI), and other important issues associated with
international financial management.
Importance of International Finance
International finance plays a critical role in international trade and
inter-economy exchange of goods and services. It is important for a
number of reasons, the most notable ones are listed here −
 International finance is an important tool to find the exchange
rates, compare inflation rates, get an idea about investing in
international debt securities, ascertain the economic status of
other countries and judge the foreign markets.
 Exchange rates are very important in international finance, as
they let us determine the relative values of currencies.
International finance helps in calculating these rates.
 Various economic factors help in making international
investment decisions. Economic factors of economies help in
determining whether or not investors’ money is safe with
foreign debt securities.
 Utilizing IFRS is an important factor for many stages of
international finance. Financial statements made by the
countries that have adopted IFRS are similar. It helps many
countries to follow similar reporting systems.
 IFRS system, which is a part of international finance, also helps
in saving money by following the rules of reporting on a single
accounting standard.
 International finance has grown in stature due to globalization.
It helps understand the basics of all international organizations
and keeps the balance intact among them.
 An international finance system maintains peace among the
work for their self-interest. International finance helps in
keeping that issue at bay.
 International finance organizations, such as IMF, the World
Bank, etc., provide a mediators’ role in managing international
finance disputes.
Scope of International Finance
Three conceptually distinct but interrelated parts are identifiable in
international finance:
International Financial Economics: concerned with causes and
effects of financial flows among nations -application of macroeconomic
theory and policy to the global economy.
International Financial Management: concerned with how individual
economic units, especially MNCs, cope with the complex financial
environment of international business. Focuses on issues most relevant
for making sound business decision in a global economy
International Financial Markets: concerned with international
financial/investment instruments, foreign exchange markets,
international banking, international securities markets, financial
derivatives, etc
Features of International Finance
Foreign exchange risk
An understanding of foreign exchange risk is essential for managers
and investors in the modern day environment of unforeseen changes in
foreign exchange rates. When different national currencies are
exchanged for each other, there is a definite risk of volatility in foreign
exchange rates. The present International Monetary System set up is
characterised by a mix of floating and managed exchange rate policies
adopted by each nation keeping in view its interests.
Political risk
Another risk that firms may encounter in international finance is political
risk. Political risk ranges from the risk of loss (or gain) from unforeseen
government actions or other events of a political character such as acts
of terrorism to outright expropriation of assets held by foreigners.
Expanded opportunity sets
When firms go global, they also tend to benefit from expanded
opportunities which are available now. They can raise funds in capital 7
markets where cost of capital is the lowest. In addition, firms can also
gain from greater economies of scale when they operate on a global
basis.
Market imperfections
The final feature of international finance that distinguishes it from
domestic finance is that world markets today are highly imperfect.
There are profound differences among nations’ laws, tax systems,
business practices and general cultural environments. Imperfections in
the world financial markets tend to restrict the extent to which investors
can diversify their portfolio.
Reasons to study International Finance
International financial management deals with the financial decisions
which are taken into the area of international business. The growth
of international business is in the obvious from of extremely
inflated size of the international trade. It involves the proper
management ofthe international flow of funds. There are two -
way flows of a fund, external in the form of investment and
internal in the form of repartition divided, technical services fee,
royalty etc,which are required for the proper management
that’s why it’s important to study financial management.2-How is
international financial management different from domestic financial
1. To understand a global economy, we must understand the change
factors and their impact.
2. No international business is possible without significant
understanding of international finance. All of us will agree that national
currencies exist; international trade is a reality and therefore, exchange
rates are necessary and often change depending upon so many
factors.
3. The field of finance deals with the concepts of time, money, risk and
how they are interrelated. It also deals with how money is spent and
budgeted.
4. Even if a firm is not doing any international business, the knowledge
of international financial environment is a must. The domestic prices
and the profitability are greatly influenced by the changes taking place
in the international financial environment.
5. There are many players and many instruments in vogue. The study
of international financial environment will tell us who these are and
when to use whom.
6. There are many regulatory agencies. We can understand what role
they play in international finance and how and when they have faulted.
7. There have been many financial crises. A study of them tells about
the reasons thereof and the steps taken to overcome those crises.
8. There does exist national currencies and hence doing international
business is constantly concerned with exchange rates and the
associated risks.
9. Most countries have their own money. In the absence of any gold or
silver backing, it is impossible to find their intrinsic value. Thus, there is
exchange risk. It often implies that there is contractual exposure.
10. Appreciation (Revaluation) or Depreciation (Devaluation) can make
a country less attractive as a place to produce and export from or as a
market to export to.
11. The money which is there in a foreign country faces transfer risk, if
the political set up does not allow its remittance.
12. Sercu says that a truly international stock and bond market does
not exist. The basic reason is that of asymmetric information and
investor protection. Governance is big issue and indifference to the
issue has caused frauds and crises.
Classification of International finance Operation
1. Exporting: Exporting is often the first choice when manufacturers
decide to expand abroad. Simply stating, exporting means selling
abroad, either directly to target customers or indirectly by retaining
foreign sales agents or/and distributors.
2. Licensing: Licensing is another way to expand one’s operations
internationally. In case of international licensing, there is an agreement
whereby a firm, called licensor, grants a foreign firm the right to use
intangible (intellectual) property for a specific period of time, usually in
return for a royalty.
3. Franchising: Closely related to licensing is franchising. Franchising
is an option in which a parent company grants another company/firm
the right to do business in a prescribed manner. Franchising differs
from licensing in the sense that it usually requires the franchisee to
follow much stricter guidelines in running the business than does
licensing.
4. Foreign Direct Investment (FDI): Foreign direct investment refers
to operations in one country that ire controlled by entities in a foreign
country. In a sense, this FDI means building new facilities in other
country. There are two forms of direct foreign investment: joint ventures
and wholly-owned subsidiaries. A joint venture is defined as “the
participation of two or more companies jointly in an enterprise in which
each party contributes assets, owns the entity to some degree, and
shares risk”. In contrast, a wholly-owned subsidiary is owned 100% by
the foreign firm.
International Finance Vs Domestic Finance
Exposure to Foreign Exchange: The most significant difference is of
foreign currency exposure. Currency exposure impacts almost all the
areas of an international business starting from your purchase from
suppliers, selling to customers, investing in plant and machinery, fund
raising etc. Wherever you need money, currency exposure will come
into play and as we know it well that there is no business transaction
without money.
Macro Business Environment: An international business is exposed to
altogether a different economic andpolitical environment. All trade
policies are different in different countries. Financial manager has to
criticallyanalyze the policies to make out the feasibility and profitability
of their business propositions. One country may have business friendly
policies and other may not.
Legal and Tax Environment: The other important aspect to look at is
the legal and tax front of a country. Tax impacts directly to your product
costs or net profits i.e. „the bottom line‟ for which the whole story is
written. International finance manager will look at the taxation structure
to find out whether the business which is feasible in his home country is
workable in the foreign country or not.
Different group of Stakeholders: It is not only the money which along
matters, there are other things which carry greater importance viz. the
group of suppliers, customers, lenders, shareholders etc. Why these
group of people matter? It is because they carry altogether a different
culture, a different set of values and most importantly the language also
may be different. When you are dealing with those stakeholders, you
have no clue about their likes and dislikes. A business is driven by
these stakeholders and keeping them happy is all you need.
Foreign Exchange Derivatives: Since, it is inevitable to expose to the
risk of foreign exchange in a multinational business. Knowledge of
forwards, futures, options and swaps is invariably required. A financial
manager has to be strong enough to calculate the cost impact of
hedging the risk with the help of different derivative instruments while
taking any financial decisions.
Different Standards of Reporting: If the business has presence in say
US and India, the books of accounts need to be maintained in US
GAAP and IGAAP. It is not surprising to know that the booking of
assets has a different treatment in one country compared to other.
Managing the reporting task is another big difference. The financial
manager or his team needs to be familiar with accounting standards of
different countries.
Capital Management: In an MNC, the financial managers have ample
options of raising the capital. More number of options creates more
challenge with respect to selection of right source of capital to ensure
the lowest possible cost of capital.