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
Date Written: May 3, 2019
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
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