QUESTION FOUR

a$)$ Discuss the main methods that have been adopted to try to solve the 'debt crisis' in less developed countries and explain the importance to multinational corporations of solving the debt crisis. $(7$ marks$)$

b$)$ SynClear Ltd$,$ of Seattle, Washington, produces equipment to clean polluted waters. It has a subsidiary in Canada that imports and markets its parent's products. The value of this subsidiary, in terms of Canadian dollars $($CAD$),$ has recently decreased to CAD $5$ million due to the depreciation of the CAD relative to the US dollar $($USD$)$ from the traditional level of USD$/$CAD $0\mathrm{.}85$ to about $0\mathrm{.}75.$ SynClear's analysts argue that the value of the CAD may very well return to its former level if$,$ as seems reasonable, the uncertainty created by Canada's rising government deficit is resolved. If the CAD recovers, SynClear's products would be less expensive in terms of CAD, and the CAD value of the subsidiary would rise to about $6\mathrm{.}5$ million.

Required:

i$.$ From the parent's $($USD$)$ perspective, is the exposure of SynClear Canada to the USD$/$CAD exchange rate positive or negative? Explain the sign of the exposure. $(5$ marks$)$

ii$.$ Determine the exposure and verify that the corresponding forward hedge eliminates this exposure. Use a forward rate of USD$/$CAD $0\mathrm{.}80,$ and USD$/$CAD $0\mathrm{.}75$ and USD$/$CAD $0\mathrm{.}85$ as the possible future spot rates. $(8$ marks$)$

iii. SynClear's chairman argues that, if the exposure is positive and the possibie exchange rate change is an appreciation of the CAD, the only possible change is an increase in the value of the subsidiary. Therefore, he continues, the firm should not hedge: why give away the chance of gain? How do you evaluate this argument? $(5$ marks$)$