Exchange Rate Uncertainty and Optimal Participation in International Trade
Instead of just focusing on the effect of exchange rate levels (undervalued or overvalued exchange rates) on trade, this paper provides an analysis of the effects of exchange rate volatility levels on international trade. Intuitively, an increase i...
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| Format: | Policy Research Working Paper |
| Language: | English |
| Published: |
2012
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| Subjects: | |
| Online Access: | http://www-wds.worldbank.org/external/default/main?menuPK=64187510&pagePK=64193027&piPK=64187937&theSitePK=523679&menuPK=64187510&searchMenuPK=64187283&siteName=WDS&entityID=000158349_20110316112823 http://hdl.handle.net/10986/3359 |
| Summary: | Instead of just focusing on the effect
of exchange rate levels (undervalued or overvalued exchange
rates) on trade, this paper provides an analysis of the
effects of exchange rate volatility levels on international
trade. Intuitively, an increase in exchange rate volatility
leads to uncertainty for agents participating in
international trade, and such uncertainty might have a
negative impact on international trade flows and
participation, thereby reducing the advantages of world-wide
specialization. This is especially crucial for countries
where exchange rate derivatives markets are not yet well
developed and the costs of hedging exchange rate risk are
very high. The model here considers optimal decisions about
participation in international trade under uncertainty about
the exchange rate. The main conclusion is that a high level
of exchange rate volatility can deter entrepreneurs from
becoming exporters, even though exporting can be highly
profitable. For those already participating in international
trade, it is opposite: they may, optimally, choose not to
leave the market even though staying in this market is
highly unprofitable in the short run. |
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