Question
In: Finance
Distinguish between (i) transactions risk (ii) operational risk and (iii) translation risk as types of risk...
Distinguish between (i) transactions risk (ii) operational risk and
(iii) translation risk as types of risk posed by fluctuations in
exchange rates.
Solutions
Expert Solution
1) Transaction risk :- Transaction risk refers to the risk caused due to unexpected fluctuation in exchange rate before the settlement of the transaction. Transaction risk is higher , when the time gap between contact and settlement is higher. Exporters and importers are affected by this risk , and there are realized profit and loss. Taxes are applied on profit or loss.
2) Operational risk :- Operational risk is also known as economic risk. This risk refers to effect on cash flows caused due to unexpected fluctuation in the exchange rate.Operational risk is higher for firms having both input cost and product prices exposed to currency fluctuation.
3) Translation risk :- Translation risk refers to the risk related to translating the assets from the foreign currency to domestic currency in balance sheet caused due to unexpected fluctuation in currency rate. There is book value gain or loss, and no taxes applied in this case.
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