The Impact of a Common Currency on East Asian Production Networks and China's Exports Behavior

74 Pages Posted: 6 Mar 2009

Date Written: March 17, 2008

Abstract

Vertical fragmentation of product value chain across borders is the driving force of growing economic interdependency in East Asia. A common currency, not flexible exchange rates between national currencies, would reduce flexibility in relative prices within East Asia. Its impact would be far greater for exports that have stronger production network linkage. In order to test the hypothesis, the paper estimates the effect of a common currency on China's processing and ordinary exports separately. The distinction is necessary because the processing exports, unlike the ordinary exports, are produced along the regional production networks, with final stages of assembly and exporting being increasingly concentrated in China. The short-run dynamics indicate that the effect on China's processing exports is more than double the corresponding effect on China's ordinary exports. The long-run effect on the processing exports of intra-regional RER flexibility, which is otherwise the lack of a regional currency, is almost nine times as large as the long-run effect of a unilateral RMB appreciation. By contrast, the corresponding long-run effect is statistically insignificant for the case of ordinary exports that are produced primarily by using local inputs. The long-run coefficient of this intra-regional RER flexibility implies that the actual volume of processing exports is 20 percent below the potential. The magnitudes of these effects are consistent with the hypothesis that a common currency would further integrate East Asian production networks and promote regional economic integration.

Keywords: Production networks, fragmentation of value chain, optimum currency area, common currency, exchange rate flexibility, China

JEL Classification: F14, F33, F36, F42

Suggested Citation

Rahman, Mizanur, The Impact of a Common Currency on East Asian Production Networks and China's Exports Behavior (March 17, 2008). Available at SSRN: https://ssrn.com/abstract=1354038 or http://dx.doi.org/10.2139/ssrn.1354038

Mizanur Rahman (Contact Author)

University of Dhaka ( email )

Department of Accounting & Information Systems
University of Dhaka
Dhaka, 1000
Bangladesh
+88 01817684202 (Phone)
+88 2 8615583 (Fax)

HOME PAGE: http://www.acmd.com.bd

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