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Foreign exchange rates and journal pricing
Library Acquisitions: Practiw & Theory, Vol. 13, pp. 417-422,
1989
Printed in the USA. All rights reserved.
031%6408/89
S3.00 + .OO
Copyright 0 1989 Pergamon Press plc
FOREIGN EXCHANGE RATES AND JOURNAL PRICING BRUCE STRAUCH Associate Professor Department of Business Administration The Citadel Charleston, SC 29409
RATINA STRAUCH Head, Collection Development Department College of Charleston Library Charleston, SC 29424
Abstract - This article discusses differential pricing and the role of the exchange rate in differential pricing. Citing prior work by Hamaker, Astle, and Boissonnas, this article explains the mechanism of the exchange rate and explores ways that the impact of the exchange rate on the journal pricing structure can be minimized. Business techniques for managing the foreign exchange risk are referred to as “exposure management. M Using these techniques, libraries can protect themselves against severe loss due to exchange rate fluctuations.
INTRODUCTION Over the past four years, much has been said and written about so-called “differential pricing.” First defined by Hamaker [l], differential pricing involves the charging of varying prices to differing markets for an identical product. One prominent cause of escalating journal prices has been the practice of foreign (or international) publishers charging higher prices to the American market, citing a fluctuating exchange rate as the culprit. For example, Boissonnas details European publishers charging one price at home, a higher one for foreign buyers other than the United States and an even higher one for the American market [2]. The purpose of this article is to discuss the impact of the exchange rate on differential pricing and to detail some possible management strategies for alleviating this problem. 417
B. STRAUCH
418
DEFINITION
and K. STRAUCH
OF EXCHANGE
RATES
An exchange rate is the price of one country’s currency stated in that of another. Exchange rates for currencies exist because of different supplies of one currency vis-a-vis another and also differing demands for currencies based on the volume of a particular currency that foreigners ‘want to use in buying the goods of that country. Dollars can be thought of as a commodity whose price is determined by supply and demand just as any other commodity. In Figure 1, where the demand curve for dollars crosses the supply curve, the market price for a dollar is set in West German Deutschmarks (DM). If the supply of dollars were to increase, the number of DM a given dollar would purchase would fall. In Figure 2, this is shown graphically by moving the supply curve to the right with a resultant drop in the price. The risk that any European exporter (or journal publisher) faces is that the selling price for goods will be stated in dollars and the value of the dollar will fall before he can receive the dollars and translate them into his own domestic currency. It is this risk which publishers use to justify differential pricing and a history of price increases in the American market.
THE REAL WORLD The publishers’ justification can be challenged in a variety of ways. First, simple inspection of data cited by Boissonnas [3] shows journal markups ranging from 6% to 115% in a given year. If one publisher can handle his risk with a small markup, why does another require more than lOO%?
OM price of a $ I
S
Pl
Quantity of $
Figure 1.
Foreign Exchange Rates and Journal Pricing
0
419
Ousntitu off Figure 2.
Second, if European exporters of academic journals required mark-ups in the 50% range to handle the foreign exchange risk, then exporters of cars, clothing, or furniture should require something similar. An examination of export markups adjusted for whatever govemment export subsidies might exist should easily give the lie to the journal publishers’ claims. Indeed, if export markups are typically in the 50% range, one wonders why America would have any need of protective tariffs since most European goods would be uncompetitive in the American market. Third, American inflation has seldom been in double digits, and in the period since 1970, inflation as measured by the consumer price index has never exceeded 14% [4]. Yet European publishers sell the same journals to other foreign countries at a price lower than the American price. Further, that price appears to be uniform among countries with stable currencies as well as those with inflation of over 50% a year [5]. Fourth, basic business techniques exist for managing the foreign exchange risk. In the rest of this paper, we will explain the mechanics of these techniques and show how they can be effective in reducing foreign exchange loss.
EXPOSURE
MANAGEMENT
Business techniques for managing the foreign exchange risk are referred to as “exposure management. ” Basic exposure management techniques that any exporter (i.e., the foreign or international publisher) relies upon can be found in standard business textbooks [6]. If a company anticipates that its native currency will shift in value against the dollar, it must choose one or all of the following actions:
420 1. 2. 3. 4.
B. STRAUCH
and K. STRAUCH
invoice exports in its own native currency, use lead and lag strategy, borrow in the currency of the buyer, use forward contracts.
Let’s look at each of these actions.
Invoice in own native currency In fact, this option would suffice entirely and is the best maneuver when exporting to countries of uncertain currency values. All that a U.K. publisher need do is invoice in pounds; a German in DM and so forth. They plan their expenses and profits in that currency, think in that currency, operate in that currency. More important, they have both the data and an instinctive feel for their domestic inflation and are best able to make the delicate judgments about future operating costs and profits in that currency. So why not bill in pounds and DM and shift all the risk onto the buyers? The usual reason for having to bill in the buyer’s currency is competition that forces a vendor to assume risk because his competitor is doing so. As each European publisher holds a monopoly on his particular journal and as few journals are really in serious competition, this necessity is absent. If European publishers are billing in American dollars because of demands placed on them by American libraries which are forcing them to bear risks and raise costs to the American buyer, then the European publisher needs to communicate this concern to the buyer. Given this option, are American libraries wise to insist on billing in dollars?
Lead and lag strategy A European publisher who is worried about a decline in the value of the dollar should collect its accounts receivable as quickly as possible if they are denominated in dollars. This could include added charges if payment is not received as quickly as stipulated. These would then quickly be changed into pounds or DM while their exchange value was still high. Similarly, if it was believed that a strengthening of the dollar was imminent, the collection should be lagged.
Borrowing in the buyer country European publishers frequently print their journals in the USA to reduce mailing costs and speed them to the buyer sooner. If the dollar is predicted to decline, the publisher would be advised to 1. borrow dollars to finance the printing; 2. collect from the buyer libraries in later strengthened European currency; 3. convert the relatively stronger Euro-currency into dollars and pay off the loa& Naturally, the cost of the borrowing (the interest rate) must be lower than the potential loss from the change in the exchange rate for this to be a viable strategy.
421
Foreign Exchange Rates and Journal Pricing
The forward contract The foreign exchange market is the network of firms, banks, and brokers which buy and sell foreign currency. There is no particular market center in the way that one finds central stock exchanges. The market is found in electronic dealing rooms in banks al1 over the world. The action is nonetheless focused in the world’s capitals like Tokyo, Zurich, Brussels, New York, London, Frankfurt, and Paris. While the markets of each of the world’s time zones effectively close each evening, the worldwide network can cause exchange rates to shift at any time, and currency traders must be constantly alert. A foreign exchange option is like an option on real estate. It is a contract that permits you to buy at a specified price at some date in the future, You are not obliged to exercise the option, but only do so by choice. In any option, the seller is taking the commodity off the market for a period of time and guaranteeing that he will not raise the price. He is giving up potential sales to others at a potentially higher price. Further, you may eventually choose not to buy. So, naturally, he wants a fee for having his commodity off the market and giving up those other sales. Let’s examine how an American jobber uses a pound sterling option 171with a potential fifty cent swing in the value of the dollar against the pound [8]. American jobber is purchasing volume of U.K. journals worth flOO0 at an exchange rate of EVS1.50. He contracts for delivery direct to the library and promises to pay in six months. With the order invoiced in pounds, he will owe El000 no matter what the exchange rate at date of payment. American jobber buys a currency option under which he has the right if he wishes to buy flOO0 at fllSl.50. This option costs him $200 (91. POSSIBLE CURRENCY FLUCTUATIONS
/
\
Pound Rises
Pound Stays Same
Pound Falls
~~e~ffl~due,~~ has risen to f l/52,00. Without the option, American jobber would have to pay $2000 to purchase the ElOOO.
Exchange rate remains at f 1i f1.50
~~e~~due,~~~d has fallen to fi/$l.OO. American jobber can buy flOO0 for $1000.
American jobber exercises his option and buys requiredf 1000 at El/Sl.SO.
Jobber Jets the option Japse without exercising it.
Jobber buys the pounds at the better market rate.
Jobber has saved $300. We subtract the $200 he paid for the option.
The cost of his transaction has increased by the $200 he paid for the currency option
Jobber gas gamed $300 when the SUX,he paid for the option is considered.
I
Using the option technique illustrated above, the jobber has limited risk to the price of the option, while potentially profiting from favorable market movements.
CONCLUSION We submit that the techniques do exist for foreign or international publishers and for foreign or domestic vendors to protect themselves against severe losses due to exchange rate fluc-
422
B. STRAUCH and K. STRAUCH
tuations, at the same time limiting excessive price increases to the American market. We call upon publishers and vendors to study and implement the techniques for exposure management and then to inform the library community so that libraries will be able to share in the lessened impact of foreign exchange rates on their serials price increases.
NOTES 1. Han-raker, Charles, and Astle, Deana. “Recent Pricing Patterns in British Journal Publishing,” Library Acquisitions: Practice ond Theory, 8 (1984), 225-232. 2. Boissomtas, Christian M. “Pricing and Costs of Monographs and Serials,” In Pricing ond Costs of Monogrophs and Serials, Nationol and International Issues, Sul L. Lee, Editor, (Supplement U1, Journal of Library Administrotion, 8 (1987), NY: The Haworth Press, 1987, p. 68. 3. Ibid, p. 71. 4. U.S. Bureau of the Census, Statistical Abstract of the United States: 1988, (108th edition), Washington, DC: Government Printing Office, 1987, p. 453. table no. 742. 5. Boissonnas. p. 68. Compare this with inflation in countries like Turkey as shown in the StotisticxuAbstmct, p. 453. 6. See, for example, Kettell, Brian, A Businessman’s Guide to the Foreign Exchange Market, Lexington, MA: D. C. Heath, 1985, pp. 152-177; Jones. Eric T. and Jones, Donald L., Hedging Foreign ahonge, Converting Risk to Profit, NY: Wiley, 1987, pp. 33-102; Kenyon. Alfried, Currency Risk Monogement, NY: Wiley, 1981, pp. 63-107. 7. Adapted from Stemgold, James, “Currency Option Gets Respect: Concerns Use Hedging Tool, The New York Times, August 2, 1984, p. Dl; Jones, pp. 81-82. 8. This example is chosen since it has been cited by Boissonnas for 1985 (S1.08-$1.50). Boissonnas, p. 69. 9. This cost is approximate and variable. This fiiure has been verified for illustrative purposes by John Rothenburg. Shearson Lehman Hutton, Inc., Charleston, SC. For a fuller discussion, see Jones, pp. 59-62 et seq.
1989
Printed in the USA. All rights reserved.
031%6408/89
S3.00 + .OO
Copyright 0 1989 Pergamon Press plc
FOREIGN EXCHANGE RATES AND JOURNAL PRICING BRUCE STRAUCH Associate Professor Department of Business Administration The Citadel Charleston, SC 29409
RATINA STRAUCH Head, Collection Development Department College of Charleston Library Charleston, SC 29424
Abstract - This article discusses differential pricing and the role of the exchange rate in differential pricing. Citing prior work by Hamaker, Astle, and Boissonnas, this article explains the mechanism of the exchange rate and explores ways that the impact of the exchange rate on the journal pricing structure can be minimized. Business techniques for managing the foreign exchange risk are referred to as “exposure management. M Using these techniques, libraries can protect themselves against severe loss due to exchange rate fluctuations.
INTRODUCTION Over the past four years, much has been said and written about so-called “differential pricing.” First defined by Hamaker [l], differential pricing involves the charging of varying prices to differing markets for an identical product. One prominent cause of escalating journal prices has been the practice of foreign (or international) publishers charging higher prices to the American market, citing a fluctuating exchange rate as the culprit. For example, Boissonnas details European publishers charging one price at home, a higher one for foreign buyers other than the United States and an even higher one for the American market [2]. The purpose of this article is to discuss the impact of the exchange rate on differential pricing and to detail some possible management strategies for alleviating this problem. 417
B. STRAUCH
418
DEFINITION
and K. STRAUCH
OF EXCHANGE
RATES
An exchange rate is the price of one country’s currency stated in that of another. Exchange rates for currencies exist because of different supplies of one currency vis-a-vis another and also differing demands for currencies based on the volume of a particular currency that foreigners ‘want to use in buying the goods of that country. Dollars can be thought of as a commodity whose price is determined by supply and demand just as any other commodity. In Figure 1, where the demand curve for dollars crosses the supply curve, the market price for a dollar is set in West German Deutschmarks (DM). If the supply of dollars were to increase, the number of DM a given dollar would purchase would fall. In Figure 2, this is shown graphically by moving the supply curve to the right with a resultant drop in the price. The risk that any European exporter (or journal publisher) faces is that the selling price for goods will be stated in dollars and the value of the dollar will fall before he can receive the dollars and translate them into his own domestic currency. It is this risk which publishers use to justify differential pricing and a history of price increases in the American market.
THE REAL WORLD The publishers’ justification can be challenged in a variety of ways. First, simple inspection of data cited by Boissonnas [3] shows journal markups ranging from 6% to 115% in a given year. If one publisher can handle his risk with a small markup, why does another require more than lOO%?
OM price of a $ I
S
Pl
Quantity of $
Figure 1.
Foreign Exchange Rates and Journal Pricing
0
419
Ousntitu off Figure 2.
Second, if European exporters of academic journals required mark-ups in the 50% range to handle the foreign exchange risk, then exporters of cars, clothing, or furniture should require something similar. An examination of export markups adjusted for whatever govemment export subsidies might exist should easily give the lie to the journal publishers’ claims. Indeed, if export markups are typically in the 50% range, one wonders why America would have any need of protective tariffs since most European goods would be uncompetitive in the American market. Third, American inflation has seldom been in double digits, and in the period since 1970, inflation as measured by the consumer price index has never exceeded 14% [4]. Yet European publishers sell the same journals to other foreign countries at a price lower than the American price. Further, that price appears to be uniform among countries with stable currencies as well as those with inflation of over 50% a year [5]. Fourth, basic business techniques exist for managing the foreign exchange risk. In the rest of this paper, we will explain the mechanics of these techniques and show how they can be effective in reducing foreign exchange loss.
EXPOSURE
MANAGEMENT
Business techniques for managing the foreign exchange risk are referred to as “exposure management. ” Basic exposure management techniques that any exporter (i.e., the foreign or international publisher) relies upon can be found in standard business textbooks [6]. If a company anticipates that its native currency will shift in value against the dollar, it must choose one or all of the following actions:
420 1. 2. 3. 4.
B. STRAUCH
and K. STRAUCH
invoice exports in its own native currency, use lead and lag strategy, borrow in the currency of the buyer, use forward contracts.
Let’s look at each of these actions.
Invoice in own native currency In fact, this option would suffice entirely and is the best maneuver when exporting to countries of uncertain currency values. All that a U.K. publisher need do is invoice in pounds; a German in DM and so forth. They plan their expenses and profits in that currency, think in that currency, operate in that currency. More important, they have both the data and an instinctive feel for their domestic inflation and are best able to make the delicate judgments about future operating costs and profits in that currency. So why not bill in pounds and DM and shift all the risk onto the buyers? The usual reason for having to bill in the buyer’s currency is competition that forces a vendor to assume risk because his competitor is doing so. As each European publisher holds a monopoly on his particular journal and as few journals are really in serious competition, this necessity is absent. If European publishers are billing in American dollars because of demands placed on them by American libraries which are forcing them to bear risks and raise costs to the American buyer, then the European publisher needs to communicate this concern to the buyer. Given this option, are American libraries wise to insist on billing in dollars?
Lead and lag strategy A European publisher who is worried about a decline in the value of the dollar should collect its accounts receivable as quickly as possible if they are denominated in dollars. This could include added charges if payment is not received as quickly as stipulated. These would then quickly be changed into pounds or DM while their exchange value was still high. Similarly, if it was believed that a strengthening of the dollar was imminent, the collection should be lagged.
Borrowing in the buyer country European publishers frequently print their journals in the USA to reduce mailing costs and speed them to the buyer sooner. If the dollar is predicted to decline, the publisher would be advised to 1. borrow dollars to finance the printing; 2. collect from the buyer libraries in later strengthened European currency; 3. convert the relatively stronger Euro-currency into dollars and pay off the loa& Naturally, the cost of the borrowing (the interest rate) must be lower than the potential loss from the change in the exchange rate for this to be a viable strategy.
421
Foreign Exchange Rates and Journal Pricing
The forward contract The foreign exchange market is the network of firms, banks, and brokers which buy and sell foreign currency. There is no particular market center in the way that one finds central stock exchanges. The market is found in electronic dealing rooms in banks al1 over the world. The action is nonetheless focused in the world’s capitals like Tokyo, Zurich, Brussels, New York, London, Frankfurt, and Paris. While the markets of each of the world’s time zones effectively close each evening, the worldwide network can cause exchange rates to shift at any time, and currency traders must be constantly alert. A foreign exchange option is like an option on real estate. It is a contract that permits you to buy at a specified price at some date in the future, You are not obliged to exercise the option, but only do so by choice. In any option, the seller is taking the commodity off the market for a period of time and guaranteeing that he will not raise the price. He is giving up potential sales to others at a potentially higher price. Further, you may eventually choose not to buy. So, naturally, he wants a fee for having his commodity off the market and giving up those other sales. Let’s examine how an American jobber uses a pound sterling option 171with a potential fifty cent swing in the value of the dollar against the pound [8]. American jobber is purchasing volume of U.K. journals worth flOO0 at an exchange rate of EVS1.50. He contracts for delivery direct to the library and promises to pay in six months. With the order invoiced in pounds, he will owe El000 no matter what the exchange rate at date of payment. American jobber buys a currency option under which he has the right if he wishes to buy flOO0 at fllSl.50. This option costs him $200 (91. POSSIBLE CURRENCY FLUCTUATIONS
/
\
Pound Rises
Pound Stays Same
Pound Falls
~~e~ffl~due,~~ has risen to f l/52,00. Without the option, American jobber would have to pay $2000 to purchase the ElOOO.
Exchange rate remains at f 1i f1.50
~~e~~due,~~~d has fallen to fi/$l.OO. American jobber can buy flOO0 for $1000.
American jobber exercises his option and buys requiredf 1000 at El/Sl.SO.
Jobber Jets the option Japse without exercising it.
Jobber buys the pounds at the better market rate.
Jobber has saved $300. We subtract the $200 he paid for the option.
The cost of his transaction has increased by the $200 he paid for the currency option
Jobber gas gamed $300 when the SUX,he paid for the option is considered.
I
Using the option technique illustrated above, the jobber has limited risk to the price of the option, while potentially profiting from favorable market movements.
CONCLUSION We submit that the techniques do exist for foreign or international publishers and for foreign or domestic vendors to protect themselves against severe losses due to exchange rate fluc-
422
B. STRAUCH and K. STRAUCH
tuations, at the same time limiting excessive price increases to the American market. We call upon publishers and vendors to study and implement the techniques for exposure management and then to inform the library community so that libraries will be able to share in the lessened impact of foreign exchange rates on their serials price increases.
NOTES 1. Han-raker, Charles, and Astle, Deana. “Recent Pricing Patterns in British Journal Publishing,” Library Acquisitions: Practice ond Theory, 8 (1984), 225-232. 2. Boissomtas, Christian M. “Pricing and Costs of Monographs and Serials,” In Pricing ond Costs of Monogrophs and Serials, Nationol and International Issues, Sul L. Lee, Editor, (Supplement U1, Journal of Library Administrotion, 8 (1987), NY: The Haworth Press, 1987, p. 68. 3. Ibid, p. 71. 4. U.S. Bureau of the Census, Statistical Abstract of the United States: 1988, (108th edition), Washington, DC: Government Printing Office, 1987, p. 453. table no. 742. 5. Boissonnas. p. 68. Compare this with inflation in countries like Turkey as shown in the StotisticxuAbstmct, p. 453. 6. See, for example, Kettell, Brian, A Businessman’s Guide to the Foreign Exchange Market, Lexington, MA: D. C. Heath, 1985, pp. 152-177; Jones. Eric T. and Jones, Donald L., Hedging Foreign ahonge, Converting Risk to Profit, NY: Wiley, 1987, pp. 33-102; Kenyon. Alfried, Currency Risk Monogement, NY: Wiley, 1981, pp. 63-107. 7. Adapted from Stemgold, James, “Currency Option Gets Respect: Concerns Use Hedging Tool, The New York Times, August 2, 1984, p. Dl; Jones, pp. 81-82. 8. This example is chosen since it has been cited by Boissonnas for 1985 (S1.08-$1.50). Boissonnas, p. 69. 9. This cost is approximate and variable. This fiiure has been verified for illustrative purposes by John Rothenburg. Shearson Lehman Hutton, Inc., Charleston, SC. For a fuller discussion, see Jones, pp. 59-62 et seq.