Financing in a High-Interest-Rate Country
Response to the following problem:
Fair?eld Corp., a U.S. ?rm, recently established a subsid- iary in a less developed country that consistently experiences an annual in?ation rate of 80 percent or more. The country does not have an established stock market, but loans by local banks are available with a 90 percent interest rate. Fair?eld has decided to use a strategy in which the subsidiary is ?nanced entirely with funds from the parent. It believes that in this way it can avoid the excessive interest rate in the host country. What is a key disadvantage of using this strategy that may cause Fair?eld to be no better off than if it paid the 90 percent interest rate?