Question

Due to globalization, financial institutions operate in foreign markets or with foreign currencies.

• Discuss the foreign exchange risks faced by financial institutions.

Answer 1

There are basically three primary foreign exchange risk faced by financial institutions:-

1. Transactions risk- In globalisation transactions are done in different countries. For example, HSBC based in London but it might invest in bonds in China. So returns will be in Chinese Yuan. But there might be possibility of increase or decrease in prices of Yuan. Hence, it demonstrates Transaction risk.

2.Translation risk- This is risk due to consolidation of losses of subsidiaries into parent company. For example:- Citibank has headquarters in US but business across the globe. Therefore, translation losses of Citibank subsidiaries in India or other countries will be consolidated in Citibank US books of accounts.

3. Economic risk- This is the risk due to exposure to numerous economies. For example:- HSBC bank have huge business in China. But due to recent outbreak of Corona Virus, Chinese economy start experiencing slowdown, which in a way has impacted HSBC China Operations.

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