$\begin{array}{lll}
&\text { Fixed-Rate } & \text { Floating-Rate } \
&\text { Borrowing Cost } & \text { Borrowing Cost }\
\text { Company: A} & 6 \% & \text { LIBOR } \
\text { Company: B} & 5 \% & \text { LIBOR }-0.5
\end{array}$
-What rate would company A have to pay on its floating rate debt so that an interest rate swap would no longer benefit each party?
A) LIBOR - 0.5
B) LIBOR
C) LIBOR + 0.5
D) An interest swap is always beneficial for both parties involved.

Question

Quizplus · Accepted Answer

In an interest rate swap, the benefit for both parties ceases when the comparative advantage of one party over the other in either fixed or floating rate borrowing is fully exploited. Here, Company A has a comparative advantage in fixed-rate borrowing (6% vs. 5% for Company B), and Company B has a comparative advantage in floating-rate borrowing (LIBOR - 0.5% vs. LIBOR for Company A). The swap would no longer be beneficial if Company A's floating rate borrowing cost aligns with Company B's advantage, which is LIBOR - 0.5%. Therefore, for the swap to no longer benefit each party, Company A's rate would need to be LIBOR + 0.5%, eliminating the spread that makes the swap beneficial.

-What Rate Would Company a Have to Pay on Its