As Director of Planning for Scott Paper Company, Dick Thompson does not typically have to get...

Transcribed Image Text:

As Director of Planning for Scott Paper Company, Dick Thompson does not typically have to get into arguments with the firm's accountants. Recently, however, his efforts to give Scott's manufacturing subsidiaries in Europe and Japan more financial independence had been frustrated by the VP Finance, who pointed to the losses these subsidiaries had sustained during the past six months. The reason was not in dispute: because of the U.S. dollar's rise of almost 7 percent against most other currencies, the translated value of the foreign subsidiaries had fallen. Dick's argument was that the loss was fictional, a "paper loss" resulting from the firm's accountants ignoring the value of the overseas operations' fixed assets and future revenues. "Because of purchasing power parity," he * said, "foreign prices tend to rise, relative to U.S. prices, by an amount suffi- cient to offset the currency change. For example, if you were to take a few representative goods in the United States, and compare the prices of iden- tical goods in Japan and Europe, translated into U.S. dollars at the current rate, you'd find they're similar." "Is that so? Prove it!" retorted the chief accountant. "I'd bet that if you compared the price of a Big Mac, or a gallon of gasoline or any other com- parable commodity in a couple of different countries, you'd find that there's no practical relationship between prices and exchange rates." THREE Who is right? Can you identify the prices of one or more comparable con- sumer goods in at least three different countries? Are their prices the same in U.S. dollars, and if not, what is the percentage deviation from the "law of one price?" Please identify your sources! As Director of Planning for Scott Paper Company, Dick Thompson does not typically have to get into arguments with the firm's accountants. Recently, however, his efforts to give Scott's manufacturing subsidiaries in Europe and Japan more financial independence had been frustrated by the VP Finance, who pointed to the losses these subsidiaries had sustained during the past six months. The reason was not in dispute: because of the U.S. dollar's rise of almost 7 percent against most other currencies, the translated value of the foreign subsidiaries had fallen. Dick's argument was that the loss was fictional, a "paper loss" resulting from the firm's accountants ignoring the value of the overseas operations' fixed assets and future revenues. "Because of purchasing power parity," he * said, "foreign prices tend to rise, relative to U.S. prices, by an amount suffi- cient to offset the currency change. For example, if you were to take a few representative goods in the United States, and compare the prices of iden- tical goods in Japan and Europe, translated into U.S. dollars at the current rate, you'd find they're similar." "Is that so? Prove it!" retorted the chief accountant. "I'd bet that if you compared the price of a Big Mac, or a gallon of gasoline or any other com- parable commodity in a couple of different countries, you'd find that there's no practical relationship between prices and exchange rates." THREE Who is right? Can you identify the prices of one or more comparable con- sumer goods in at least three different countries? Are their prices the same in U.S. dollars, and if not, what is the percentage deviation from the "law of one price?" Please identify your sources!

Answer rating: 100% (QA)

To determine who is right in the argument between Dick Thompson and the chief accountant at Scott Paper Company we can look at the concept of the law ... View the full answer