Abstract
Global value chain (GVC) participation affects the relationship between trade volumes and exchange rate movements. Guided by a simple theory, we show that exports react to the exchange rate between the country producing value added contained in exports and the country of final absorption for this value added. Three predictions follow: (i) a higher share of foreign value added in exports reduce the responsiveness of export volumes to exchange rate changes, (ii) a greater share of exports that returns as imports also reduce the responsiveness of export volumes and (iii) a higher share of inputs that are further reexported increase the responsiveness of exports to the trading partner's nominal effective exchange rate. Using a large origin-sector-destination level panel data set covering the period 1995-2009 and around 85% of world GDP, we find strong empirical support for these predictions. We further show that some sectors in some countries can experience a decline in gross exports when their currency depreciates.
Highlights
The production processes for goods and services became increasingly fragmented across countries over the past few decades
More comprehensive measures of global value chain (GVC) integration indicates that the expansion seems to have slowed since the 2008-2009 Great Recession (Timmer et al, 2016) but GVCs still account for a large share of global trade and more than half of gross exports of the euro area (ECB, 2017)
Our simple framework suggests that exports do not react to the direct exchange rate between the exporting and the importing countries of a given flow, but rather to the exchange rate between the country producing the value added contained in exports, and the country of final absorption for this value added. We show that both F V and RDV should decrease the elasticity of bilateral exports to exchange rates, whereas IV should make trade flows sensitive to the trading partners nominal effective exchange rate
Summary
The production processes for goods and services became increasingly fragmented across countries over the past few decades. We acknowledge that, the “global” part of the value chain has grown over time (Los et al, 2015), value chains are still largely regional and often involve countries within large currency areas (Johnson and Noguera, 2012) This feature is taken into consideration when we construct our three measures of GVC integration that are suitable for assessing the impact of GVCs on exchange rate elasticities.
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