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The answer says that: CMC Co has a comparative advantage in borrowing at fixed rate and counter party has a comparative advantage in borrowing at the floating rate.
What I don’t get is how xan counter party has advantage in floating rate when it has Yield rate + 0.8% floating rate abd CMC has Yield rate + 0.4% .
Wouldn’t CMC co be in advantage in both?By comparative advantage it is talking about the difference between the two fixed rates as compared with the difference between the two floating rates.
I think a more obvious way of seeing what is happening is that if CMC were to borrow floating and counterparty fixed, then in total they would be paying (Y + 0.4%) + 3.8% = Y + 4.2%
On the other hand, if CMC borrowed fixed and counterparty floating, then in total they would be paying 2.2% + (Y + 0.8%) = Y + 3%So if they did the second option, and swapped, then in total they could save 1.2%. They would both have to pay bank charges of 0.2%, but this would still leave a saving of 0.8% which they could share between them (0.4% each).
The end result would be that instead of CMC having to pay Y + 0.4%, the will only end up paying Y + 0.4% – 0.4% = Y; and instead of counterparty having to pay 3.8%, they will only end up paying 3.8% – 0.4% = 3.4%
They both save 🙂
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