In an interest rate swap, one party agrees to exchange a fixed-rate payment for another partys floating-rate payments. These derivatives have become a prominent tool in modern finance, allowing speculators to bank on increased future returns and swappers a means to manage risk and the uncertainties involved with floating-interest rates.

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Avoiding Foreign Exchange Controls

To promote domestic economic security by attempting to keep currency in country and avoid devaluation, many countries enforce regulations on currency swapping. These regulations impose limits on how much currency a party can convert to a foreign type. Multinational companies developed interest rate swap mechanisms as a means to circumvent foreign exchange controls, trading interest rates from one type of currency with the type needed. These swaps provide businesses a tool to raise capital in a foreign market without extending debt in that country.

Managing Risk

References

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