The Comparative Advantage Argument
 Take the example of two firms X and Y where:
 X wants to borrow floating
 Y wants to borrow fixed
Company 
Fixed Borrowing 
Floating Borrowing 
X 
5% 
LIBOR 
Y 
7% 
LIBOR + 100bps 
 Table tells us that X can borrow fixed at 5% and Y can borrow fixed at 7%
 Also X can borrow floating at LIBOR and Y can borrow floating at (LIBOR + 100bps)
 This implies that X has absolute advantage in borrowing over Y
 The point to note here is that the difference in fixed borrowing rates for X and Y (is not the same for the floating borrowing rates)
 Combined benefit to both X and Y by using swap is which is 100 bps for X and Y
 To reduce the borrowing rates X and Y enter into a swap shown below through the intermediary which is usually an Investment Bank (IB)
 Assuming zero transaction charges for IB, X borrows at 5% and lends that money at 5.5% to Y through an investment banker
 Similarly Y borrows at LIBOR + 100bps and lends to X at LIBOR
 Therefore the net borrowing rate for X becomes (LIBOR â€“ 50bps) which is lower than the original rate at of LIBOR
 Similarly the net borrowing rate Y becomes 6.5% which is 50bps less than the original rate of 7%
Question â€“ Comparative Advantage
 Following are the rates at which company ABC and XYZ can borrow from the market
Fixed Rate 
Floating Rate 

ABC 
11% 
LIBOR + 1% 
XYZ 
10% 
LIBOR + 3% 
 How can they benefit from Interest Rate SWAP?
Solution â€“ Comparative Advantage
 XYZ and ABC both benefit by 50bps while the IB makes 200bps profit