Author: indiafreenotes

Alternative Dispute Resolution (ADR) is the procedure for settling disputes without litigation, such as arbitration, mediation, or negotiation. ADR procedures are usually less costly and more expeditious. They are increasingly being utilized in disputes that would otherwise result in litigation, including high-profile labor disputes, divorce actions, and personal injury claims.

One of the primary reasons parties may prefer ADR proceedings is that, unlike adversarial litigation, ADR procedures are often collaborative and allow the parties to understand each other’s positions. ADR also allows the parties to come up with more creative solutions that a court may not be legally allowed to impose.

Common Forms of Alternative Dispute Resolution (ADR)

The most common forms of ADR for civil cases are conciliation, mediation, arbitration, neutral evaluation, settlement conferences and community dispute resolution programs.

1. Facilitation

Facilitation is the least formal of the ADR procedures. A neutral third-party works with both sides to reach a resolution of their dispute. Facilitation assumes that the parties want to reach a settlement. The negotiation is done through telephone contacts, written correspondence, or via e-mail. Facilitation is sometimes used by judges at settlement teleconferences exploring alternatives to taking the dispute to trial.

2. Mediation

Mediation is more formal but still leaves control of the outcome to the parties. An impartial mediator helps the parties try to reach a mutually acceptable resolution to the dispute. The parties control the substance of the discussions and any agreement reached. A typical session starts with each party telling their story. The mediator listens and helps them identify the issues in the dispute, offering options for resolution and assisting them in crafting a settlement.

Mediation can take many forms, depending on the needs of the parties, such as:

• Face to face: Parties directly communicate during the process,
• Shuttle: The mediator separates the parties and shuttles between each one with proposals for settlement,
• Facilitative: The mediator helps the parties directly communicate with each other, or
• Evaluative: The mediator makes an assessment of the merit of the parties’ claims during separate meetings and may propose terms of settlement.

When Should You Use Mediation?

Mediation should be considered when the parties have a relationship they want to preserve. So when family members, neighbors or business partners have a dispute, mediation may be the best ADR procedure to use. Mediation is also effective when emotions may get in the way of a solution. A mediator can help the parties communicate in a non-threatening and effective manner.

Mediation is available to the parties at any point in the litigation process including through the appeal.

3. Arbitration

Arbitration is the most formal of the ADR procedures and takes the decision making away from the parties. The arbitrator hears the arguments and evidence from each side and then decides the outcome of the dispute. Arbitration is less formal than a trial and the rules of evidence are usually relaxed. Each party can present proofs and arguments at the hearing. There isn’t, however, any facilitative discussion between the parties. Unlike other forms of ADR, the award is often supported by a reasoned opinion (though the parties can agree that no opinion will issue).

Arbitration can be “binding” or “non-binding.” Binding arbitration means the parties have waived their right to a trial, agree to accept the arbitrator’s decision as final and, usually, there is no right of appeal of the decision. If there is a binding arbitration clause in a contract, the matter must proceed to arbitration and there is no trial.

Non-binding arbitration means the parties can request a trial if they don’t accept the arbitrator’s decision. Some courts will impose costs and fines if the court decision is not more favorable than that awarded in arbitration. Non-binding arbitration is increasingly rare.

When Should You Use Arbitration?

Arbitration is good for cases where the parties want a third person to settle the dispute but want to avoid the cost of money and time that accompanies a court trial. It is also appropriate where the parties want a decision maker experienced in the subject of the dispute.

Other Types of Alternative Dispute Resolution (ADR)

Neutral Evaluation

Neutral Evaluation is a procedure where each party presents their case to a neutral party who gives an opinion on the strengths and weaknesses of each parties’ evidence and arguments and how the dispute should be settled. It is effective where the subject matter of the dispute requires an expert in the field. The evaluator’s opinion is often used to negotiate a settlement.

Neutral Evaluation is best for cases with technical issues that need an expert and where there aren’t significant emotional or personal barriers to reaching a settlement.

Settlement Conferences

Settlement Conferences may be voluntary or mandatory depending on the judge. The parties will meet with the judge or a referee to discuss a possible settlement of their dispute. The judge will not make a decision but will assist the parties in evaluating the strengths and weaknesses of their case.

Community Dispute Resolution Program

In Michigan there are Community Dispute Resolution Centers that are staffed with trained community volunteers who provide low-cost mediation as an alternative to costly court procedures. This type of mediation is tailored to handle a wide range of private and public conflicts such as landlord/tenant, business dissolutions, land use, public education or adult guardianships/conservatorships. Most of the cases are referred by the courts.

ADR is becoming more popular with courts across the country. The main reason parties prefer ADR proceedings is that, unlike adversarial litigation, ADR proceedings allow the parties to understand each person’s position and create a solution that works for them.

The foreign exchange market is the place where money denominated in one currency is bought and sold with money denominated in another currency. It provides the physical and institutional structure through which the currency of one country is exchanged for that of another country, the rate of exchange between currencies is determined, and foreign exchange transactions are physically completed.

The primary purpose of this market is to permit transfer of purchasing power denominated in one currency to another. For example, a Japanese exporter sells automobiles to a U.S. dealer for dollars, and a U.S. manufacturer sells instruments to a Japanese Company for yen. The U.S. Company will like to receive payment in dollar, while the Japanese exporter will want yen.

It would be inconvenient for individual buyers and sellers of foreign exchange to seek out one another. So a foreign exchange market has developed to act as an intermediary. It is the largest financial market in the world with prices moving and currencies trading somewhere every hour of every business day.

Major world trading starts each morning in Sydney and Tokyo; moves West to Hong Kong and Singapore; passes on to Bahrain; shifts to the main European markets of Frankfurt, Zurich and London; Jumps the Atlantic to New York; goes west to Chicago, and ends in San Francisco and Los Angeles.

It is the largest financial market in the world having daily turnover of over 1600 billions dollar in 2001. Bulk of the trading is accounted for by a small number of currencies the U.S. dollar, Deutschemark (DM), Yen, Pound Sterling, Swiss Franc, and Canadian dollar.

Foreign exchange market is of two types, viz.; retail market and wholesale market, also termed as the inter-bank market. In retail market, travellers and tourists exchange one currency for another. The total turnover in this market is very small.

Wholesale market comprises of large commercial banks, foreign exchange brokers in the inter-bank market, commercial customers, primarily MNCs and Central banks which intervene in the market from time to time to smooth exchange rate fluctuations or to maintain target exchange rates.

Over 90% of the total volume of the transactions is represented by inter-bank transactions and the remaining 10% by transactions between banks and their non-bank customers. It is worth noting that central bank intervention involving buying or selling in the market is often indistinguishable from the foreign exchange dealings of commercial banks or of other participants.

The foreign exchange is similar to the over-the counter market in securities. It has no centralized physical market place (except for a few places in Europe and the futures market of the International Monetary Market of the Chicago Mercantile Exchange) and no fixed opening and closing time.

The trading in foreign exchange is done over the telephone, telexes, computer terminals and other electronic means of communication. The currencies and the extent of participation of each currency in this market depend on local regulations that vary from country to country.

It is interesting to note that bulk of the turnover in the international exchange market is represented by speculative transactions.

Foreign exchange market in India is relatively very small. The major players in that market are the RBI, banks and business enterprises. Indian foreign exchange market is controlled and regulated by the RBI. The RBI plays crucial role in settling the day-to-day rates.

Participants in Foreign Exchange Market

Participants in Foreign exchange market can be categorized into five major groups, viz.; commercial banks, Foreign exchange brokers, Central bank, MNCs and Individuals and Small businesses.

1. Commercial Banks

The major participants in the foreign exchange market are the large Commercial banks who provide the core of market. As many as 100 to 200 banks across the globe actively “make the market” in the foreign exchange. These banks serve their retail clients, the bank customers, in conducting foreign commerce or making international investment in financial assets that require foreign exchange.

These banks operate in the foreign exchange market at two levels. At the retail level, they deal with their customers-corporations, exporters and so forth. At the wholesale level, banks maintain an inert bank market in foreign exchange either directly or through specialized foreign exchange brokers.

The bulk of activity in the foreign exchange market is conducted in an inter-bank wholesale market-a network of large international banks and brokers. Whenever a bank buys a currency in the foreign currency market, it is simultaneously selling another currency.

A bank that has committed itself to buy a certain particular currency is said to have long position in that currency. A short-term position occurs when the bank is committed to selling amounts of that currency exceeding its commitments to purchase it.

2. Foreign Exchange Brokers

Foreign exchange brokers also operate in the international currency market. They act as agents who facilitate trading between dealers. Unlike the banks, brokers serve merely as matchmakers and do not put their own money at risk.

They actively and constantly monitor exchange rates offered by the major international banks through computerized systems such as Reuters and are able to find quickly an opposite party for a client without revealing the identity of either party until a transaction has been agreed upon. This is why inter-bank traders use a broker primarily to disseminate as quickly as possible a currency quote to many other dealers.

3. Central banks

Another important player in the foreign market is Central bank of the various countries. Central banks frequently intervene in the market to maintain the exchange rates of their currencies within a desired range and to smooth fluctuations within that range. The level of the bank’s intervention will depend upon the exchange rate regime flowed by the given country’s Central bank.

4. MNCs

MNCs are the major non-bank participants in the forward market as they exchange cash flows associated with their multinational operations. MNCs often contract to either pay or receive fixed amounts in foreign currencies at future dates, so they are exposed to foreign currency risk. This is why they often hedge these future cash flows through the inter-bank forward exchange market.

5. Individuals and Small Businesses

Individuals and small businesses also use foreign exchange market to facilitate execution of commercial or investment transactions. The foreign needs of these players are usually small and account for only a fraction of all foreign exchange transactions. Even then they are very important participants in the market. Some of these participants use the market to hedge foreign exchange risk.

Segments of Foreign Exchange Market

There are two segments of foreign exchange market, viz., Spot Market and Forward Market.

1. Spot Market

In spot market currencies are exchanged immediately on the spot. This market is used when a firm wants to change one currency for another on the spot. The procedure is very simple. A banker can either handle the transaction for the firm or may have it handled by another bank.

Within minutes the firm knows exactly how many units of one currency are to be received or paid for a certain number of units of another currency.

For instance, a US firm wants to buy 4000 books from a British Publisher. The Publisher wants four thousand British Pounds for the books so that the American firm needs to change some of its dollars into pounds to pay for the books. If the British Pound is being exchanged, say, for US $ 1.70, then £ 4,000 equals $ 6800.

The US firm simply pays $ 6800 to its bank and the bank exchanges the dollars for 4000 £ to pay the British Publisher.

In the Spot market risks are always involved in any particular currency. Regardless of what currency a firm holds or expects to hold, the exchange rate may change and the firm may end up with a currency that declines in values if it is unlucky or not careful.

There are also risks that what the firm owes or will owe may be stated in a currency that becomes more valuable and, as such possibly harder to obtain and use to pay the obligation.

2. Forward Market

Forward market has come into existence to avoid uncertainties. In Forward market, a forward contract about which currencies are to be traded, when the exchange is to occur, how much of each currency is involved, and which side of the contract each party is entered into between the firms.

With this contract, a firm eliminates one uncertainty, the exchange rate risk of not knowing what it will receive or pay in future. However, it may be noted that any possible gains in exchange rate changes are also estimated and the contract may cost more than it turns out to be worth.

For example, suppose that the ninety-day forward price of the British pound is 2.000 (US$ 2.00 per £) or quoted £ 0.5000 per US $, and that the current spot price is US $ 1.650. If a firm enters into a forward contract at the forward exchange rate, it indicates a preference for this forward rate to the unknown rate that will be quoted ninety days from now in the spot market.

However, if the spot price of the pound increases by 100 per cent during the next 90 days, the pound would be US $ 3.3000 and the £ 5,00,000 could be converted into US $ 1,650,000 The forward market, therefore, can remove the uncertainty of not knowing how much the firm will receive or pay. But it creates one uncertainty-whether the firm might have been better off by waiting.

Functions of Foreign Exchange Market

Foreign exchange market plays a very significant role in business development of a country because of the fact that it performs several useful functions, as set out below:

1. Foreign exchange market transfers purchasing power across different countries, which results in enhancing the feasibility of international trade and overseas investment.
2. It acts as a central focus whereby prices are set for different currencies.
3. With the help of foreign exchange market investors can hedge or minimize the risk of loss due to adverse exchange rate changes.
4. Foreign exchange market allows traders to identify risk free opportunities and arbitrage these away.
5. It facilitates investment function of banks and corporate traders who are willing to expose their firms to currency risks.

Currency Appreciation

Currency appreciation is an increase in the value of currency comparing to another currency. There are number of reasons that contribute currency appreciation, including government policy, interest rates, trade balances and business cycles. Currency appreciation happens in a floating exchange rate system, so a currency appreciates when the value of one goes up compared to another. In other word, appreciation takes place when exchange rates change, allowing for the purchase of more units of a currency.

Currency Depreciation

Currency depreciation is an opposite of currency appreciation, it is a fall in the value of a currency in a floating exchange rate system. Currency depreciation can occur due to any number of reasons – economic fundamentals, interest rate differentials, political instability, risk aversion among investors and so on.

Easy monetary policy and high inflation are two of the leading causes of currency depreciation. In a low interest-rate environment, hundreds of billions of dollars chase the highest yield. Expected interest rate differentials can trigger a bout of currency depreciation. While higher inflation is combated with central banks increasing interest rates, too much inflation is seen as a threat to stability, hence the likelihood of currency depreciation.

Additionally, inflation can lead to higher input costs for export which makes a nation’s exports less competitive in global markets, which will widen the trade deficit and cause the currency to depreciate.

How, exactly, do we define currency appreciation and depreciation?

Appreciation and depreciation of the currency can be very simple to identify. For example, USD/JPY = 100. The first of the two currencies (USD) is the base currency and represents a single unit, or the number 1 in the case of a fraction such as 1/100. The second is the quoted currency and is represented by the rate as the amount of that currency needed to equal one unit of the base currency. The way this quote reads is: One U.S. dollar buys 100 units of Japanese yen.

For the purposes of currency appreciation, the rate directly corresponds to the base currency. For example, If the rate increases to 110, then one U.S. dollar now buys 110 units of Japanese yen and if the currency depreciate that means one U.S. dollar can only buy Japanese yen in the value of less than 100. Therefore, the currency depreciation and appreciation can have a part in contributing exports and imports.

How does a change in currency affects exports and imports?

Since the exchange rate has an effect on the trade surplus or deficit, a weaker domestic currency stimulates exports and makes imports more expensive. Conversely, a strong domestic currency hampers exports and makes imports cheaper.

The example to illustrate this concept is, for example, an electronic component priced at $10 in the U.S. that will be exported to India. Assume the exchange rate is 50 rupees to the U.S. dollar. Ignoring shipping and other transaction costs such as import duties for the moment, the $10 item would cost the Indian importer 500 rupees. Now, if the dollar strengthens against the Indian rupee to a level of 55, assuming that the U.S. exporter leaves the $10 price for the component unchanged, its price would increase to 550 rupees ($10 x 55) for the Indian importer. This may force the Indian importer to look for cheaper components from other locations. The 10% appreciation in the dollar versus the rupee has thus diminished the U.S. exporter’s competitiveness in the Indian market.

To conclude, when a country has stronger value of currency or appreciation, they can import more goods and services from another country (assuming that the currency of exporting country remains the same.) than what they used to. And in the opposite way, if depreciation occurs in a country,no matter what the reason is, the number of product that they used to buy will be lesser in the same amount of money.

The precise meanings of the terms “forward rate” and “spot rate” are somewhat different in different markets. But what they have in common is that they refer, for example, to the current price or bond yield the spot rate versus the price or yield for the same product or instrument at some point in the future the forward rate.

In commodities futures markets, a spot rate is the price for a commodity being traded immediately, or “on the spot”. A forward rate is the settlement price of a transaction that will not take place until a predetermined date; it is forward-looking.

The precise meanings of the terms “forward rate” and “spot rate” are somewhat different in different markets. But what they have in common is that they refer, for example, to the current price or bond yield the spot rate versus the price or yield for the same product or instrument at some point in the future the forward rate.

In commodities futures markets, a spot rate is the price for a commodity being traded immediately, or “on the spot”. A forward rate is the settlement price of a transaction that will not take place until a predetermined date; it is forward-looking.

The Spot and Forward Rates in Commodities Markets

A spot rate, or spot price, represents a contracted price for the purchase or sale of a commodity, security, or currency for immediate delivery and payment on the spot date, which is normally one or two business days after the trade date. The spot rate is the current price quoted for immediate settlement of the contract.

For example, if during the month of August a wholesale company wants immediate delivery of orange juice, it will pay the spot price to the seller and have orange juice delivered within two days.

On the other hand, if the company needs orange juice to be available in late December, but believes the commodity will be more expensive during the winter period due to lower supply, it wouldn’t want to make a spot purchase since the risk of spoilage is high. A forward contract would a better fit for the investment. Unlike a spot transaction, a forward contract, involves an agreement of terms on the current date with the delivery and payment at a specified future date.

Spot and Forward Rates in Bond and Currency Markets

The terms spot rate and forward rate are applied a little differently in bond and currency markets. In bond markets, the price of an instrument depends on its yield that is, the return on a bond buyer’s investment as a function of time. If an investor buys a bond that is nearer to maturity, the forward rate on the bond will be higher than the interest rate on its face.

For example, if an investor buys a $1,000, two-year bond with a 10% interest rate, but buys it when there is only one year left until maturity, the yield or forward rate will actually be 21%, because he will be returned $1,210 in one year.

In currency markets, the spot rate, as in most markets, refers to the immediate exchange rate. The forward rate, on the other hand, refers to the future exchange rate agreed upon in forward contracts. For example, if a Chinese electronics manufacturer has a large order to be shipped to America in one year, and expects the U.S. dollar to be much weaker by that time, it might be able to transact a currency forward to lock in a more favorable exchange rate.

Spot and Forward Exchange Rates

Broadly speaking, we may distinguish between two types of exchange rates prevailing in the foreign exchange market viz., spot rate of exchange and forward rate of exchange. Spot rate of exchange and forward rate of exchange in terms of domestic money payable refers to the price of foreign exchange in terms of domestic money payable for the immediate delivery of a particular foreign currency.

It is, thus, a day-to-day rate. On the other hand, forward rate of exchange refers to the price at which a transaction will be consummated at some specified time in the future. A forward exchange market functions side by side with a spot exchange market.

The transactions of forward exchange market are known as forward exchange transactions, which simply involve purchase or sale of a foreign currency for delivery at some time in the future; the rates at which these transactions are consummated are, therefore, called forward rates.

Forward exchange rate is determined at the time of sale but the payment is not made until the exchange is delivered by the seller. Forward rates are usually quoted on the basis of a discount or premium over or under the spot rate of exchange.

Currency Swap

A sport of a currency when combined with a forward repurchase in a single transaction is called ‘currency swap.’ The swap rate is the difference between the spot and forward exchange rates in the currency swap.

Usually, a forex market is dominated by the spot markets transactions swaps and forward transactions.

Arbitrage

Arbitrage is the act of simultaneously buying a currency in one market and selling in another to make a profit by taking advantage of price or exchange rate differences in the two markets. If the arbitrage operations are confined to two markets only, they will be known as “two-point” arbitrage. If they extend to three or more markets, they are known as “three-point” arbitrage or “multipoint” arbitrage.

The term bid and ask (also known as bid and offer) refers to a two-way price quotation that indicates the best potential price at which a security can be sold and bought at a given point in time. The bid price represents the maximum price that a buyer is willing to pay for a share of stock or other security. The ask price represents the minimum price that a seller is willing to take for that same security. A trade or transaction occurs after the buyer and seller agree on a price for the security which is no higher than the bid and no lower than the ask.

The difference between bid and ask prices, or the spread, is a key indicator of the liquidity of the asset. In general, the smaller the spread, the better the liquidity.

The Role of Bid Price and Ask Price in Liquidity

Typically, when there is a big difference between the bid price and the ask price of a security, it means there is not much trading going on. This is not a good thing when you are a seller, because it can leave you stuck with a stock you don’t want to own.

In contrast, the narrower the spread between the bid price and the ask price of a security, the easier it is to sell. This is a very good thing as a seller, because it means there is plenty of trade volume around the ask price. This, in turn, means less risk as an investor.

Think of it like this, as a kid, if you decided to open a lemonade stand in the middle of winter when the demand for lemonade is low and sell each cup for $5, if customers were only willing to pay $1, you would be experiencing a bid-ask spread of $4. Now, you could choose to sell your lemonade for a significantly lower price, and cut your losses. Or, you could choose to hold at your price, but you might end up waiting until July before somebody was willing to buy a cup at your ask price. This is an example of low liquidity.

Meanwhile, if you lowered your price to $1.01, because the difference between your ask price and the bid price of your customers was much smaller, you would have a much easier time selling your lemonade. In other words, you would be much more liquid.

The same applies to buying and selling securities. The closer the bid price and the ask price are to one another, the more liquid the security is.

3 Factors That Affect Bid Price And Ask Price

When it comes to the bid-ask spread, there are a number of factors that can affect how wide or narrow it is. In this next section, we will cover three of them.

1. Market Size

The larger the market size and trading volume that happens on a daily basis for a particular security, the narrower the bid-ask spread is likely to be. Which makes total sense if you think about it. I mean, if there are 1 million people wanting to buy a particular stock, it is much more likely that you will be able to sell it if you need to liquidate your shares.

On the other hand, if you are trying to sell a particular security, but there are only 100 people interested in buying it, you are much less likely to sell for a high price.

2. Volatility

In short, volatility widens the bid-ask spread. Why? Because if the price of a security jumps and falls wildy, or without any predictability, market-makers have a much harder time setting the ask price or the bid price. Remember, unpredictability is the opposite of liquidity. This lack of liquidity is reflected in the bid-ask spread.

3. Political/Economic Uncertainty

When people are uncertain about the political or economic climate, people tend to play it safe with their investments. In other words, sellers stop selling, and buyers stop buying. Or at least, sellers stop dropping their ask price, and buyers stop increasing their bid price.

Benefits of Bid-Ask Spread

The bid-ask spread works to the advantage of the market maker. Continuing with the above example, a market maker who is quoting a price of $10.50 / $10.55 for security A is indicating a willingness to buy A at $10.50 (the bid price) and sell it at $10.55 (the asked price). The spread represents the market maker’s profit.

Bid-ask spreads can vary widely, depending on the security and the market. Blue-chip companies that constitute the Dow Jones Industrial Average may have a bid-ask spread of only a few cents, while a small-cap stock that trades less than 10,000 shares a day may have a bid-ask spread of 50 cents or more.

The bid-ask spread can widen dramatically during periods of illiquidity or market turmoil, since traders will not be willing to pay a price beyond a certain threshold, and sellers may not be willing to accept prices below a certain level.

Exchange Rate

Exchange rate quotations can be quoted in two ways Direct quotation and indirect quotation. Direct quotation is when the one unit of foreign currency is expressed in terms of domestic currency. Similarly, the indirect quotation is when one unit of domestic currency us expressed in terms of foreign currency.

1. Direct Method

Under this method, the foreign exchange rate of a foreign currency is expressed as number of units of home currency (Local, domestic currency).

Under direct method, the number of units of foreign currency is kept constant (normally a unit, with exceptions, viz. Japanese Yen, in which Yen is taken as 100, if Yen is foreign currency) and any change in the exchange rate will be made by changing the value of local currency or home currency or domestic currency.

For example, US dollar 1.00 = Indian Rupees 46.86 (as on August 27th, 2010) would be a direct exchange rate for the US dollar in India, and US $ 1.00 = Japanese Yen 93.25 (as on March 31st, 2010) is a direct quote for Japan. The quotation of the exchange rate as found by Direct Method is known as “Direct Quotation” or “Direct Rate”.

Direct Quotation: Buy Low, Sell High

A trader, organization, business unit, banks, etc. are the various parties who contribute to the trade and commerce, through their manufacturing, trading in goods and/or providing of services. They do this kind of activities to earn profit. Though their prime motive might be different, but they need to make profit to sustain themselves.

In the same way, the banker buys the foreign currency at lower rate and sell at higher rate, which may result into margin, which help to cover his expenditures relating to the transaction, cost of storing the foreign currency, etc. and also a margin of profit. For having a practical idea, you may go to any of the Bank in your neighbourhood and inquire the rate of buying a foreign currency from them and of selling it.

You may see that there is some difference between them. In Layman’s words, the difference between the two rates is the profit of the banker; but in fact it is his margin, and he will earn profit after deducting all kinds of expenses relating to the transaction, or as per the method adopted by the bank.

For understanding this we can take an example, where a bank buys US $ from its customer for Rs. 44.94 (rate as on March 30th, 2010) and sell it to other customer at Rs. 45.14 (rate as on March 31st, 2010).

Thus under Direct method of Exchange rate the principle adopted by the bank is to buy at a lower price from customers and sell them at a higher price. This principle can be stated in the form of a maxim: ‘Buy Low, Sell High’.

2. Indirect Method

Under this method, the foreign exchange rate is quoted as number of units of foreign currency for a unit of local currency. Under the indirect method, the numbers of units of foreign currency are stated in exchange of a unit of local currency. Thus, in indirect method, the numbers of units of local currency are kept constant and the number of units of foreign currency changes.

Under indirect method, any change in the exchange rate is stated as a change in the number of units of foreign currency. For example, US dollar 2.2153 = Indian Rupees 100 (as on March 31st, 2010) would be the corresponding indirect quotation in India for the US dollar.

The method in which the foreign exchange rate is derived by keeping local or hone or domestic currency constant and the rate is expressed in number of units of foreign currency is known as Indirect Method.

It is also known as ‘Foreign Currency Quotation’ or ‘Indirect Quotation’ or simply ‘Currency Quotation’. Thus, under indirect method the change in exchange rate is shown by changing the number of units of foreign currency and keeping the home currency as constant.

Indirect Quotation: Buy High; Sell Low

Buy more quantity and sell less quantity of commodities or goods or services at same amount of currency. Hypothesize the statement with respect to the quantity that a trader purchases and sells instead of the variation in prices.

For a fixed amount of investment, trader would acquire more units of the commodity when he purchases and for the same amount he would part with lesser units of the commodity when he sells. Taking the orange vendor as an example, if for Rs.100 he gets 50 oranges from his supplier and for the same amount of Rs.100 he sells 40 oranges, he would make profit.

Applying the same principle as discussed above in foreign exchange management we can state that the banker may also earn buying more quantity and selling less quantity of foreign currency at same rate. In indirect method, it is the number of units of foreign currency which vary and home currency remains the same.

For example, for Rs.100, the bank may quote a selling rate of US dollar 2.3000 and buying rate of US dollar 2.3100. The difference between US dollar 2.3100 and US dollar 2.3000 is the bank’s margin of profit. The position is summed up in the maxim

In India, Direct Quotation was prevalent till 1966. After devaluation of rupee in 1966, following the practice in London exchange market, indirect quotation was adopted. Effective from 2nd August 1993, India has switched over to direct method of quotation. The change has been introduced in order to simplify and establish transparency in exchange rates in India.

Trading banks offer a two-way quotation. If, in London, where the exchange rates are quoted indirectly, the US dollar is quoted at $ 1.6290-98, it means that while the quoting bank is willing to sell $ 1.6290 per pound, it will buy dollars at $ 1.6298. It will be readily appreciated that the selling rate for one currency is the buying rate for the other. The indirect rate system also yields the somewhat odd maxim namely “buy high and sell low”.

The “buy high and sell low” maxim refers only to the nominal rates no trader will make a profit if he buys at a higher cost than the yield on selling. In the direct quotation, bank buys at a lower price, and sells at a higher price.

In indirect quotation, for a fixed unit of home currency buy high (acquired more units of foreign currency), and sell low (part with lesser units of foreign currency). Exchange rate has to be quoted in four decimal points. In direct quotation, for a fixed unit of foreign currency buy low (pay lesser units of home currency) and sell high (receive more units of home currency).

International monetary system refers to a system that forms rules and standards for facilitating international trade among the nations.

It helps in reallocating the capital and investment from one nation to another.

It is the global network of the government and financial institutions that determine the exchange rate of different currencies for international trade. It is a governing body that sets rules and regulations by which different nations exchange currencies with each other.

With the growing complexity in the international trade and financial market, the international monetary system is necessary to assign a standard value of the international currencies. The rules and regulations set by the international monetary system to regulate and control the exchange value of the currencies are agreed upon by the respective governments of the nations. Thus, the government’s stand may affect the decision making of the international monetary system. For example, change in the trade policy of a government may affect the international trade of goods and services.

International monetary system motivates and encourages the nations to participate in the international trade to improve their BOP and minimize the trade deficit. It has grown over the years as a single architectural body with a vision to integrate the global economy. Some of the important achievements of the international monetary system over the years have been the establishment of World Bank and International Monetary Fund in the year 1944.

The establishment of IMF and World Bank is the result of the agreement among nations to set a body, which promotes and supports the international trade. Now, let’s discuss the evolution of international monetary system. Earlier in 1870 to 1914, trade was carried with the help of gold and silver without any institutional support. At that time, monetary system was decentralized and market based and money played a minor role as compared to gold in international trade.

The use of gold declined after World War I as war increased expenditure and inflation. In such a scenario, countries planned to revive the standard of gold but failed due to great depression. Thus, in 1944, 730 representatives of 44 nations met at Bretton Woods, New Hampshire, United States to create a new international monetary system.

This was called as the Bretton Woods system, which became a turning point in the history of international trade. The aim of new international monetary system is to create a stabilized international currency system and ensure a monetary stability for all the nations.

It was decided that since the United States held most of the world’s gold, thus all the nations would determine the values of their currencies in terms of dollar. The central banks of nations were given the task of maintaining fixed exchange rates with respect to dollar for each currency.

The Bretton Woods system ended in 1971 as the trade deficit and growing inflation undermined the value of dollar in the whole world. In 1973, the floating exchange rate system, also known as flexible exchange rate system was developed that was market based.

Paper Currency Standard & Purchasing Power Parity

With the breakdown of the gold standard during the period of the First World War, gold parities and free movements of gold ceased, therefore the mint par of exchange lost significance in the exchange markets.

Exchange rates fluctuated far beyond the traditional gold points and there was complete confusion. Hence, to explain this phenomenon and the problem of determination of the equilibrium exchange between inconvertible currencies, the theory of purchasing power parity was enunciated.

The basic idea underlying the purchasing power parity theory is that the foreign currencies are demanded by the nationals of a country because it has power to command goods in its own country.

When domestic currency of a nation is exchanged for foreign currency, what is in fact done is that domestic purchasing power is exchanged for foreign purchasing power. It follows that the main factor determining the exchange rate is the relative purchasing power of the two currencies.

For, when two currencies are exchanged, what is exchanged, in fact, is the internal purchasing power of the two currencies.

Thus, the equilibrium rate of exchange should be such that the exchange of currencies would involve the exchange of the equal amounts of purchasing power. It is the parity of the purchasing power that determines the exchange rate. Thus, the purchasing power theory states that exchange rate tends to rest at the point at which there is equality between the respective purchasing power of the currencies. In other words, rate of exchange between two inconvertible paper currencies tends to close to their purchasing power ratio. Hence,

The Purchasing Power Theory

(PPT) seeks to explain that under the system of autonomous paper standard the external value of a currency depends ultimately and essentially on the domestic purchasing power of that currency relative to that of another currency.

The PPT has been presented in two versions, namely

• Absolute Version of Purchasing Power Parity and
• Relative Version of Purchasing Power Parity.

1. Absolute Purchasing Power Parity

The absolute version of the purchasing power parity theory stresses that the exchange rates should normally reflect the relation between the internal purchasing power of the various national currency units.

The price of a tradable commodity in one country should theoretically be equal to the price of the same commodity in another country, after adjusting for the foreign exchange rate. The theory is known as the international law of one price. When the international law one price applied to the representative good or basket of goods, it is called the absolute purchasing power parity condition.

To illustrate the point, let us assume that a representative collection of goods costs Rs.9,625/- in India and US$ 195 in USA. As per the Absolute PPP theory, the exchange rate between US$ and Indian Rupee is the ratio of two price indices.

Spot price (In Indian Rupee) = Price Index of India/ Price Index of USA

Spot Rate = PRupee / PUSA

As per the example mentioned above, the exchange rate would be;

Spot (in Rupee) = 9625/195 = Rs.47.5128

The theoretical argument behind the Absolute PPP condition is that a country’s goods are relatively cheap internationally; goods market arbitrage would create pressure on both foreign prices and goods prices to correct, and thereby conform to uniform international prices.

2. Relative Purchasing Power Parity

Purchasing Power for two currencies can be different not because of differences in their internal purchasing power, but some other factors also.

Relative purchasing power parity relates the change in two countries’ expected inflation rates to the change in their exchange rates. Inflation reduces the real purchasing power of a nation’s currency.

If a country has an annual inflation rate of 5%, that country’s currency will be able to purchase 5% less real goods at the end of one year. Relative purchasing power parity examines the relative changes in price levels between two countries and maintains the exchange rates, which will compensate for inflation differentials between the two countries.

The relationship can be expressed as follows, using indirect quotes:

St / S0 = (1 + iy) ÷ (1 + ix) t

Where,

S0 is the spot exchange rate at the beginning of the time period (measured as the “y” country price of one unit of currency x)

St  is the spot exchange rate at the end of the time period.

iy  is the expected annualized inflation rate for country y, which is considered to be the foreign country.

Ix  is the expected annualized inflation rate for country x, which is considered to be the domestic country.

Example

The annual inflation rate is expected to be 8% in the India and that for the US is 3%. The current exchange rate is Rs.46.5500/- per US $. What would the expected spot exchange rate be in six months for Indian Rupee relative to US$.

Answer:

So the relevant equation is:

St / S0 = (1 + iy) ÷ (1 + ix)

= S6month ÷ Rs.46.5500 = (1.08 ÷ 1.03)0.5

Which implies S6month = (1.023984) × Rs.46.550 = Rs.47.6665.

So the expected spot exchange rate at the end of six months would be Rs.47.6665 per US$.

Inflation, taxes, quality of products, and other circumstances that change the market also have bearing on the price or internal purchasing power. All these factors need to be adjusted while estimating the exchange rate under in-convertible paper currency standard. PPP theory may not reflect the true exchange rate in the short-run however; it actually indicates the fundamental equilibrium exchange rate in the long-run.

International Monetary System: The Bretton Woods System

Attempts were initiated to revive the Gold Standard after the World War I, but it collapsed entirely during the Great Depression of the 1930s.

It was felt that adherence to the Gold Standard prevented countries from expanding the money supply significantly so as to revive economic activity.

However, after the Second World War, representatives of most of the world’s leading nations met at Bretton Woods, New Hampshire, in 1944 to create a new international monetary system.

United States of America, at that time, was accounted for over half of the world’s manufacturing capacity and held most of the world’s gold, the leaders decided to tie world currencies to the US dollar, which, in turn, they agreed should be convertible into gold at $35 per ounce. Under the Bretton Woods system, Central Banks of participating countries were given the task of maintaining fixed exchange rates between their currencies and the US-dollar.

They did this by intervening in foreign exchange markets. If a country’s currency was too high relative to the US-dollar, its central bank would sell its currency in exchange for US-dollars, driving down the value of its currency. Conversely, if the value of a country’s money was too low, the country would buy its own currency, thereby driving up the price. The purpose of the Bretton Woods meeting was to set up new system of rules, regulations, and procedures for the major economies of the world.

The principal goal of the agreement was economic stability for the major economic powers of the world. The system was designed to address systemic imbalances without upsetting the system as a whole.

The Bretton Woods System continued until 1971. By that time, high inflation and trade deficit in the USA were undermining the value of the dollar. Americans urged Germany and Japan, both of which had favorable payments balances, to appreciate their currencies.

But those nations were reluctant to take that step, since raising the value of their currencies would increase prices for their goods and hurt their exports. Finally, the USA abandoned the fixed value of the US-dollar and allowed it to “float” against other currencies, which led to collapse of the Bretton Woods System.

The Bretton Woods system established the US Dollar as the reserve currency of the world. It also required world currencies to be pegged to the US-dollar rather than gold. The demise of Bretton woods started in 1971 when Richard Nixon took the US off of the Gold Standard to stem the outflow of gold. By 1976 the principles of Bretton Woods were abandoned all together and the world currencies were once again free floating.

World leaders tried to revive the system with the so-called “Smithsonian Agreement” in

1971, but the effort could not yield. Economists call the resulting system a “managed float regime,” meaning that even though exchange rates most currencies float, central Banks till intervene to prevent sharp changes.

As in 1971, countries with large trade surpluses often sell their own currencies in an effort to prevent them from appreciating. Similarly, countries with large trade deficits buy their own currencies in order to prevent depreciation, which raises domestic prices. But there are limits to what can be accomplished through intervention, especially for countries with large trade deficits. Eventually, a country that intervenes to support its currency may deplete its international reserves, making it unable to continue support the currency and potentially leaving it unable to meet its international obligations.

At present almost all countries having their own paper currencies standard which is neither linked to gold or US-dollar or any other foreign currencies and they have adopted the currency system which is “managed floating” in nature.

The Mint Par Parity Theory

This theory is associated with the working of the international gold standard. Under this system, the currency in use was made of gold or was convertible into gold at a fixed rate. The value of the currency unit was defined in terms of certain weight of gold, that is, so many grains of gold to the rupee, the dollar, the pound, etc. The central bank of the country was always ready to buy and sell gold at the specified price.

The rate at which the standard money of the country was convertible into gold was called the mint price of gold.

If the official British price of gold was £6 per ounce and of the US price of gold $12 per ounce, they were the mint prices of gold in the respective countries. The exchange rate between dollar and pound would be fixed at $12/£6 =2, which in other words, one pound is equal to two dollar.

This rate is called mint parity rate or mint par of exchange because it was based on the mint price of gold. However, the actual exchange rate between these currencies would vary above or below the mint parity rate by the cost of shipping gold between two countries. To illustrate this, suppose the US has a deficit in its balance of payments with Britain. The difference between the value of imports and exports will have to be paid in gold by the US importers because the demand for pounds exceeds the supply of pounds. But the transshipment of gold involves cost. Suppose the shipping cost of gold from the US to Britain is 5 cents. So the US importers would have to pay $2.05 per £1. This is exchange rate, which is equivalent to US gold

Because currencies were convertible in gold, then nations could ship gold among themselves to adjust their “balance of payments.”

In theory, all nations should have an optimal balance of payments of zero, i.e. they should not have either a trade deficit or trade surplus.

For example, in a bilateral trade relationship between Australia and Brazil, if Brazil had a trade deficit with Australia, then Brazil could pay Australia gold. Now that Australia had more gold, it could issue more paper money since it now had a greater supply of gold to support new bills.

With an increase of paper bills in the Australian economy, inflation, i.e. a rise in prices due to an overabundance of money, would occur. The rise in prices would subsequently lead to a drop in exports, because Brazil would not want to buy the more expensive Australian goods.

Subsequently, Australia would then return to a zero balance of payments because its trade surplus would disappear.

Likewise, when gold leaves Brazil, the price of its goods should decline, making them more attractive for Australia. As a result, Brazil would experience an increase in exports until its balance of payments reached zero. Therefore, the gold standard would ideally create a natural balancing effect to stabilize the money supply of participating nations.

The Gold Standard in Operation

However, the operation of the gold standard in reality caused many problems. When gold left a nation, the ideal balancing effect would not occur immediately. Instead, recessions and unemployment would often occur. This was because nations with a balance of payments deficit often neglected to take appropriate measures to stimulate economic growth. Instead of altering tax rates or increasing expenditures – measures which should stimulate growth – governments opted to not interfere with their nations’ economies. Thus, trade deficits would persist, resulting in chronic recessions and unemployment.

With the outbreak of the First World War in 1914, the international trading system broke down and nations valued their currencies by fiat instead, i.e. governments took their currencies off the gold standard and simply dictated the value of their money. Following the war, some nations attempted to reinstate the gold standard at pre-war rates, but drastic changes in the global economy made such attempts futile. Britain, which had previously been the world’s financial leader, reinstated the pound at its pre-war gold value, but because its economy was much weaker, the pound was overvalued by approximately 10%. Consequently, gold swept out of Britain, and the public was left with valueless notes, creating a surge in unemployment. By the time of the Second World War, the inherent problems of the gold standard became apparent to governments and economists alike.

Following the second world war, the International Monetary Fund replaced the gold standard as a means for nations to address balance of payments problems with what became a “gold-exchange” standard.

Currencies would be exchangeable not in gold but in the predominant post-war currencies of the allied nations: British sterling, or more importantly, the U.S. dollar. Under the new International Monetary Fund approach, governments had a more pronounced role in managing their economies. Ideally, governments would hold dollars in “reserve.” If an economy needed an influx of money because of a balance of payments deficit, the government could exchange its reserve dollars for its own currency, and then inject this money into its economy. The dollar would ideally remain stable since the U.S. government agreed to exchange dollars for gold at a price of $35 an ounce. Thus, world currencies were officially off the gold standard. However, they were exchangeable for dollars. Because dollars were still exchangeable for gold, the “gold-exchange” standard became the prevailing monetary exchange system for many years.

The effect of the gold-exchange system was to make the United States the center for international currency exchange. However, due to the inflationary effects of the Vietnam War and the resurgence of other economies, the United States could no longer comply with its obligation to exchange dollars for gold. Its own gold supply was rapidly declining. In 1971,

President Richard Nixon removed the dollar from gold, ending the predominance of gold in the international monetary system.

In retrospect, the gold standard had many weaknesses. Its foremost problem was that its theoretical balancing effect rarely worked in reality. A much more efficient means to resolve balance of payments problems is through government intervention in their economies and the exchange of reserve currencies. Today, very few commentators propose a return to the gold standard.

To select the best payment method, it can be helpful to think about it in terms of the above risk ladder. The nature of the relationship with your buyer may also determine the settlement method used.

Payment Method 1: Open account

This is probably the least secure payment method for you as the exporter. Your buyer receives the goods and then pays for them, usually with a credit period attached (30, 60 or 90 days).

This payment method extends the period before which your business receives cash –and your working capital position will be impacted further if a period of credit applies.

You might consider offering this option under the following circumstances:

• You have an established relationship with the buyer
• The buyer is a multinational business with strong buying power and strong buyer credit rating
• Smaller value exports.

Payment method 2: Bank collection

This is a more secure option than an open account, whereby, as the name suggests, your bank collects the money on your behalf. It is also known as a documentary collection.

An instruction document is forwarded by your bank to your buyer’s bank for release against either Payment (Documents against Payment) or Acceptance – of a Bill of Exchange (Documents against Acceptance).

This can be a good way of “meeting in the middle” with your buyer, wherein the risk is reduced (but not eliminated) for you both.

It is also not as time consuming or costly as a letter of credit, and doesn’t take up any credit facilities.

Payment method 3: Letter of credit

A letter of credit is essentially a bank’s promise to another bank that you they know you and (hold your overdraft facility) will act as a guarantor for your transaction. You need both banks’ party to the transaction to agree to act in this way.

Once it is agreed, in the event that your buyer is unable to make payment, the bank will cover and pay the outstanding amount, provided that certain delivery conditions have been met.

One of the important things to note from a payment method perspective is that, if ever you receive a letter of credit, ensure you give it your immediate attention and check it in detail.

Remember, it is a document that should lead to your business being paid on time. Lack of attention to detail could delay payment and cost you money.

Payment method 4: Advance payment

This is the most advantageous method for you as the exporter as, where the buyer has to pay for the goods before they receive them. Consumers essentially do this every day when purchasing online, being charged either at the time of order or when the goods dispatch.

This method is advisable in the following circumstances:

• You have a new relationship with the buyer, where there is a ‘lack of trust’ between buyer and seller
• The buyer does not have a strong credit rating
• You sell a unique/rare product of high value.

So, once you have selected the appropriate method of payment, allow sufficient time to get everything in place and make sure you ask questions of your buyer, if need be, and especially of your bank, who are there to help.

Time Rate System

Under this system, the amount of remuneration or the total wages outstanding to the workers depends on the time for which he is employed. This is a simple and common method of wage payment. In this method, the workman is paid an hourly, daily, monthly or yearly rate of wages.

Thus, the worker is paid on the basis of time but not on his/her performance or unit of output. A number of wages payable to a workman under this method is to be calculated as follows:

Total wages = Actual time took x time rate

or, Total wages = Total hours worked x Wages rate per hour.

Advantages of Time Rate System

The following are the advantages of time rate system,

(i) Simplicity

It is really easy to understand and simple to calculate the earnings of workers under this method.

(ii) Guarantee of minimum wages

It guarantees minimum wages to the workers.

(iii) Quality production

Since, a number of wages rate is not linked to the quantity of output, this method ensures production of better quality due to the careful attention of the workers.

(iv) Unity among workers

Under this system, all workers falling under a particular category are paid at an equal rate without any calculation of their quantity of output. It encourages a feeling of equality among workers on account of which this method is also favored by trade unions.

(v) Economical

It involves less critical work and detailed records are not necessary. Since, the output is not the criteria for identification of wages, tool and materials are handled carefully and wastages are also minimized.

Disadvantages of Time Rate System

This method has the following disadvantages:

(i) No incentive to the efficient workers

It lacks incentive to efficient workers since all workers are paid equally and no distinction is made between efficient and inefficient workers. So, effort and rewards are not correlated.

(ii) Go-slow policy

The worker in order to earn more wages may try to perform the work slowly which leads to increase in labor cost per unit.

(iii) Dissatisfaction among the efficient workers

The efficient workers are paid wages at the rate equal to those payable to inefficient workers, which creates dissatisfaction among the efficient workers.

(iv) Payment for idle time

Under this method, the idle time of the workers is also paid that increases the cost of production.

(v) The high cost of supervision

Since, there is no direct link between the quantity of output and wages, wastage of time on the part of the workers is common and the negligence of which requires considerable supervision leading to increased costs.

Piece Rate System

In this method, wages are paid to the employees after completion of work. Under it, a worker is paid on the basis of output not the time taken by him. This is one of the simplest and most commonly used systems of wage payment. In this system, the wage rate is expressed in terms of per unit of output, per job or per work-order. A number of wages payable to a workman under this method is to be calculated as follows:

Total wages = Total output x Rate per Unit of Output.

Advantages of Piece rate system

The advantages of piece rate system are given below:

(i) Simplicity

Just like time rate system, the piece rate system is also simple to calculate and easy to understand. It does not involve tedious calculations.

(ii) The incentive to workers

This system provides an incentive to the workers to work hard as the wages are paid on the basis of the quantity of output, not on the basis of time. So, efforts and rewards are correlated.

(iii) Ascertainment of accurate labor cost

Piece rate system wages are paid on the basis of output, the exact cost of labor per unit of output or job can be ascertained.

(iv) No payment for idle time

Under this rating system, no payment were made to the worker for the idle time as a result of which the cost of supervision is not considerable.

(v) Proper care and use of machines and tools

The workers take proper care of their machines and tools since the breakdown of machines and tools means a decrease in output resulting in less remuneration to them.

Disadvantages of Piece Rate System

(i) Less attention to quality

As the payment of wages is made on the basis of output, the workers would try to produce more quantity of products and not focus on the quality of products which results in production of less quality products.

(ii) Inefficient use of machines and materials

Since, the wages are paid on the basis of the quantity of output, an excessive wastage of materials and frequent breakdown of machinery may be caused by the workers due to their efforts to obtain maximum output.

(iii) No guarantee of minimum wages

Since, there is a direct relationship between quality of output and wages, the workers suffer if they fail to work efficiently. There is no guarantee of minimum daily wages to workers.

(iv) Dissatisfaction among inefficient workers

The inefficient workers, who work slowly, become dissatisfied by reason of lower wages as compared to the wages paid to their efficient counterparts.

(v) Adverse effect on worker’s health

The workers may try to work abnormally to earn more which has an adverse effect on their health and efficiency. So, this method is not accepted by a trade union.

International business finance is the art of managing money on a global scale. Students interested in this field study various areas of finance, such as investments and corporate finance. Before you continue your study of international markets and global financial institutions, you must understand the fundamentals of domestic operations.

As an expert in international business finance, you may pursue a career with a multinational corporation, financial institution or consulting firm. Your level of education and experience will be key to obtaining a position, as international jobs are usually reserved for candidates with strong foreign language skills and knowledge of a specialized area of finance. For example, you may work as a financial officer, helping organizations grow through mergers, contracts and expansions in the most cost-effective way possible. As a financial analyst, you’ll guide businesses and individuals through investment decisions by studying financial statements and the global economy.

1. Different Trade Patterns

International business has to deal with the business patterns among the various countries of the world.

It has to take into account these business policies of various countries which govern their imports and exports. These policies and practices impose certain constraints and restrictions on international business.

2. Regulatory Measures

Every country wants to export its surplus natural resources, agricultural produce and manufactured goods to the extent, it can and import only these goods and products which are not produced or manufactured within the country. For this purpose regulatory measures like tariff barriers (custom duties) non-tariff barriers, quota restrictions, foreign exchange restrictions, technological and administrative regulations, consulter for­malities, state trading and preferential arrangements, trade agreements and joint commis­sions etc. Come in the way of free trade and unfettered flow of foreign business.

3. Lop Sided Development of Developing Countries:

Developed counters are equipped with sophisticated, technologies capable of transforming raw materials into finished goods on a large scale. While developing countries on the other-hand lack technological knowledge and latest equipment. It leads to the lop sided development in the international business.

4. Economic Unions

There is an increasing tendency among nations to form small groups of Economic Unions which help them to negotiate terms for the business with other countries.

5. National Policy of Development

The country desirous of achieving self-sufficiency, follows a strategy of importing capital goods equipped with latest and sophisticated technology and restricting imports of less important consumer goods with a view to lowering down its import bill.

6. Procedural Difficulties

Different countries have evolved different procedures, practices and documents in order to regulate the export trade. Some of these such as foreign exchange control regulations and others have been formulated after keeping in view the national objectives and have posed certain procedural problems to exporters and importers.

7. Other Problems

Apart from the problems written above there are many other internal difficulties which restrict our export business and consequently affect the foreign exchange earnings.

They are:

(i) Business and industry have not recognised the importance of international business,

(ii) Inflation, high prices and black marketing are starting us in the face. If the situation persists it may put our price level beyond the means of our customers abroad, no matter how badly they need our export,

(iii) Our internal economy is being managed very badly in recent years. If it continues we cannot supply our own essential need. What to say about supply to other nations,

(iv) Poor business ethics is also responsible for our international business.

The four constraints are:

• Business model and strategy
• Processes and organizational structure
• Leadership
• Culture

When we started Leaderonomics a few years ago, I decided to see if these four constraints worked even in a start-up. Surprisingly, it does.

1. Business model

This is simple. If you have a wrong business model, you will fail. If you have a wrong strategy in place, you will ultimately be doomed.

For years, despite the advent of the smartphones and with Apple and Samsung ripping up their mobile phone market dominance, Nokia refused to relook at its business model. By the time it did, it was too late.

The same happened to Eastman Kodak who refused to budge from their “film” business model. Likewise Polaroid and many others that refused to pivot their business model when they needed to change or scale. Your business model and strategy is the cornerstone of your success.

If you are having issues scaling your business, the first place to start examining is your business model as an organizational constraint.

2. Processes and organizational structure

One of the biggest mistakes organizations make is to focus on people. Yes, you read that right! The problem with solely focusing on people is that we end up pampering our people.

The key to successfully getting your employees to achieve high performance is to focus on “process.” You can still care and love them, but your emphasis must be on building institutional processes.

One of the biggest mistakes Enron and its leadership made was to rely on their “top talent”. They hired really smart people and focused entirely on these “special” people making the organization great.

Initially, Enron had stellar performance. But ultimately, it blew up. Structures and processes dictate behaviour.

If we do not spend time intentionally creating structures and processes that drive the behaviours and performance that we want, we will continually lament the actions of our employees.

3. Leadership

When we talk about leadership being a constraint, it not only means the quality of leadership at the top of the organization but also the quality of leaders across all the different levels.

It’s said that people don’t leave companies, they leave bosses, and we have had employees who made the decision to leave due to dissatisfaction with their leaders.

This shows that it is not only the senior leadership team who are important, but also the middle managers who play an equally important part in talent retention and growth.

If you look at all the top organisations in the world, a key part of their success is leadership. In fact, many problems of the world and even in our country are related to the lack of leadership.

4. Culture

Culture is the cumulative beliefs or mindsets of an organization, manifested in actions. These actions ultimately drive a result. But the “mindset” each of us has is deep-seated. So are organizational beliefs. Martin Seligman at the University of Pennsylvania believes that our mindset dictates our actions.

For example, if you believe that your failures are produced by personal deficits beyond your control, you will make no effort to try to change.