and importing from the country for several years. Due to these considerations, Blades' management is very concerned about recent events in Thailand and neigh- boring countries, as they may affect both Blades' cur- rent performance and its future plans. Ben Holt, Blades CFO, is particularly concerned about the level of inflation in Thailand. Blades' export arrangement with Entertainment Products, while allowing for a minimum level of revenue to be gener- ated in Thailand in a given year, prevents Blades from adjusting prices according to the level of inflation in Thailand. In retrospect, Holt is wondering whether Blades should have entered into the export arrange- ment at all. Because Thailand's economy was growing very fast when Blades agreed to the arrangement, strong consumer spending there resulted in a high level of inflation and high interest rates. Naturally, Blades would have preferred an agreement whereby the price per pair of Speedos would be adjusted for the Thai level of inflation. However, to take advantage of the growth opportunities in Thailand, Blades accepted the arrangement when Entertainment Pro- ducts insisted on a fixed price level. Currently, how- ever, the baht is freely floating, and Holt is wondering how a relatively high level of Thai inflation may affect the baht-dollar exchange rate and, consequently, Blades' revenue generated in Thailand. Holt is also concerned about Blades' cost of goods sold incurred in Thailand. Since no fixed-price arrangement exists and the components are invoiced in Thai baht, Blades has been subject to increases in the prices of rubber and plastic. Holt is wondering how a potentially high level of inflation will impact the baht-dollar exchange rate and the cost of goods sold incurred in Thailand now that the baht is freely floating. When Holt started thinking about future economic conditions in Thailand and the resulting impact on Blades, he found that he needed your help. In particu- lar, he is vaguely familiar with the concept of purchas- ing power parity (PPP) and is wondering about this theory's implications, if any, for Blades. Furthermore, Holt also remembers that relatively high interest rates in Thailand will attract capital flows and put upward pressure on the baht. Because of these concerns, and to gain some insight into the impact of inflation on Blades, Holt has asked you to provide him with answers to the following questions: 1. What is the relationship between the exchange rates and relative inflation levels of the two countries? How will this relationship affect Blades' Thai revenue and costs given that the baht is freely floating? What is the net effect of this relationship on Blades? 2. What are some of the factors that prevent PPP from occurring in the short run? Would you expect PPP to hold better if countries negotiate trade arrangements under which they commit themselves to the purchase or sale of a fixed number of goods over a specified time period? Why or why not? 3. How do you reconcile the high level of interest rates in Thailand with the expected change of the baht-dollar exchange rate according to PPP? 4. Given Blades' future plans in Thailand, should the company be concerned with PPP? Why or why not? 5. PPP may hold better for some countries than for others. The Thai baht has been freely floating for more than a decade. How do you think Blades can gain insight into whether PPP holds for Thailand? Offer some logic to explain why the PPP relationship may not hold here. and importing from the country for several years. Due to these considerations, Blades' management is very concerned about recent events in Thailand and neigh- boring countries, as they may affect both Blades' cur- rent performance and its future plans. Ben Holt, Blades CFO, is particularly concerned about the level of inflation in Thailand. Blades' export arrangement with Entertainment Products, while allowing for a minimum level of revenue to be gener- ated in Thailand in a given year, prevents Blades from adjusting prices according to the level of inflation in Thailand. In retrospect, Holt is wondering whether Blades should have entered into the export arrange- ment at all. Because Thailand's economy was growing very fast when Blades agreed to the arrangement, strong consumer spending there resulted in a high level of inflation and high interest rates. Naturally, Blades would have preferred an agreement whereby the price per pair of Speedos would be adjusted for the Thai level of inflation. However, to take advantage of the growth opportunities in Thailand, Blades accepted the arrangement when Entertainment Pro- ducts insisted on a fixed price level. Currently, how- ever, the baht is freely floating, and Holt is wondering how a relatively high level of Thai inflation may affect the baht-dollar exchange rate and, consequently, Blades' revenue generated in Thailand. Holt is also concerned about Blades' cost of goods sold incurred in Thailand. Since no fixed-price arrangement exists and the components are invoiced in Thai baht, Blades has been subject to increases in the prices of rubber and plastic. Holt is wondering how a potentially high level of inflation will impact the baht-dollar exchange rate and the cost of goods sold incurred in Thailand now that the baht is freely floating. When Holt started thinking about future economic conditions in Thailand and the resulting impact on Blades, he found that he needed your help. In particu- lar, he is vaguely familiar with the concept of purchas- ing power parity (PPP) and is wondering about this theory's implications, if any, for Blades. Furthermore, Holt also remembers that relatively high interest rates in Thailand will attract capital flows and put upward pressure on the baht. Because of these concerns, and to gain some insight into the impact of inflation on Blades, Holt has asked you to provide him with answers to the following questions: 1. What is the relationship between the exchange rates and relative inflation levels of the two countries? How will this relationship affect Blades' Thai revenue and costs given that the baht is freely floating? What is the net effect of this relationship on Blades? 2. What are some of the factors that prevent PPP from occurring in the short run? Would you expect PPP to hold better if countries negotiate trade arrangements under which they commit themselves to the purchase or sale of a fixed number of goods over a specified time period? Why or why not? 3. How do you reconcile the high level of interest rates in Thailand with the expected change of the baht-dollar exchange rate according to PPP? 4. Given Blades' future plans in Thailand, should the company be concerned with PPP? Why or why not? 5. PPP may hold better for some countries than for others. The Thai baht has been freely floating for more than a decade. How do you think Blades can gain insight into whether PPP holds for Thailand? Offer some logic to explain why the PPP relationship may not hold here