The Effect of Exchange Rate Uncertainty on International Trade: The Role of Financial Frictions

68 Pages Posted: 29 May 2019 Last revised: 8 Jul 2020

See all articles by Dominique Brabant

Dominique Brabant

Colgate University - Economics Department

Date Written: May 3, 2019

Abstract

This paper studies the role of financial frictions in explaining the heterogeneous effect of exchange rate uncertainty on international trade. Empirically, exports in industries in which firms have less tangible capital or rely more heavily on external finance decrease more in times of high uncertainty. However, the marginal effect of financial constraints depends on the relative size of exporters within a sector. A heterogeneous-firm model of financially-constrained exporters rationalizes the empirical findings even in the absence of risk aversion. In the model, exchange rate uncertainty affects firms by increasing the interest rates they need to pay. Lenders are concerned with the exchange rate because it affects the exporting firms' revenues and their ability to repay their loans. The calibrated model shows that providing additional collateral to financially-constrained firms lessens the reduction in exports due to uncertainty, but has limited effects.

Keywords: Exchange rate uncertainty, International Trade, Credit constraints, Heterogeneous firms

JEL Classification: F10,F14,F31,F36

Suggested Citation

Brabant, Dominique, The Effect of Exchange Rate Uncertainty on International Trade: The Role of Financial Frictions (May 3, 2019). Available at SSRN: https://ssrn.com/abstract=3382345 or http://dx.doi.org/10.2139/ssrn.3382345

Dominique Brabant (Contact Author)

Colgate University - Economics Department ( email )

13 Oak Drive
Hamilton, NY 13346
United States

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