Foreign exchange risk management

The relationship between interest rates and inflation is complex and can vary depending on various factors. However, in general, higher interest rates tend to reduce inflation, while lower interest rates tend to increase inflation.

This relationship is often explained by the Fisher effect, which suggests that higher nominal interest rates are associated with higher expected inflation rates. When interest rates are high, borrowing becomes more expensive, leading to reduced spending and investment, which can help to curb inflationary pressures.

Conversely, when interest rates are low, borrowing becomes cheaper, encouraging increased spending and investment, which can contribute to higher inflation.

However it is important to note that this relationship is not always linear and can be influenced by other factors such as monetary policy, economic conditions, and expectations.

Matching assets and liabilities can be used to manage economic risk because it helps to align the maturity of a company’s liabilities with the expected duration of its assets. By matching the timing of cash inflows from assets with the timing of cash outflows from liabilities, a company can reduce the risk of a liquidity mismatch and ensure that it has enough funds to meet its obligations.

For example, if a company has long-term assets, it can fund them with long-term liabilities to avoid a liquidity crisis. This approach helps to mitigate the risk of being unable to generate sufficient cash to repay debts as they become due.