International finance- phase 2 – exchange rate risk and
By decreasing the purchasing power of consumers over time, inflation is another problem that can affect all forms of financing. Inflation means that the things you’re able to purchase now might be more expensive down the line. This could lead to higher costs for businesses, which may raise WACC (if funding remains stagnant).
Finally, interest rate risk is associated with changes occurring in borrowing/lending markets—which can have an effect on both equity and debt investments. WACC is usually lower when rates are decreased. However, an increase in WACC can have the opposite effect. This volatility can lead to uncertainty as you try to determine capital costs or make projections for future. In summary then default risk, inflation and interest rate risk are all potential issues which should be taken into consideration when determining weighted average cost of capital—as they can have varying degrees of influence depending on current market conditions.