Today we are fortunate to have William SobeckSenior researcher and guest writer at the Research Institute of Economy, Trade and Industry (RIETI), Japan. The views expressed are solely those of the author and do not necessarily represent the views of RIETI or any other institution to which the author is affiliated.
sharp appreciation of exchange rate
The exchange rate may appreciate significantly. Between July 2011 and September 2023, the U.S. real effective exchange rate (REER) appreciated by 34% (see Figure 1).[1] From October 2007 to September 2011, the Swiss REER appreciated by 36%. From July 2007 to January 2012, Japan’s REER appreciated by 38%. From January 2009 to August 2015, the British REER appreciated by 27%.
figure 1: U.S. real effective exchange rate. Source: Bank for International Settlements.
The sharp appreciation weakened the price competitiveness of export products and caused confusion. In September 2011, the Swiss National Bank set a lower limit for the Swiss franc relative to the euro in response to the appreciation of the Swiss franc.The appreciation of the yen weakened Japanese electronics industry.A rising pound has squeezed out UK manufacturing (see Krugman2016 and What?2016).
Exchange rate elasticity and product complexity
How can countries protect themselves from the harmful effects of appreciation on exports? One way is to produce goods that are less sensitive to exchange rates. Abiad et al.. (2018) and Asian Development Bank (2018) pointed out that complex products are more difficult to produce. As a result, there will be fewer substitutes for these goods, and customers will need to spend more time and effort looking for substitutes. When there are fewer substitutes, microeconomic theory tells us that price elasticity will be lower. Exports of complex products may therefore be less sensitive to exchange rates.
Abiad et al.(2018) and Asian Development Bank (2018) suggest the following method for measuring product complexity hidalgo and hausman (2009). Hidalgo and Hausman used the reflection method to calculate product complexity. This approach takes into account the prevalence of a good, measured as the number of countries that have a clear comparative advantage in exporting that good. This approach also takes into account the degree of diversification of an economy, measured as the number of goods in which the economy exports a demonstrated comparative advantage. Hidalgo and Hausmann used an iterative process involving product ubiquity and economic diversification to derive a Product Complexity Index (PCI) for more than 1,200 products classified at the Harmonized System (HS) 4-digit level.
Albatre and Hong (2016) adopt the PCI of Hidalgo and Hausmann (2009) to study whether Singapore’s more complex exports have lower exchange rate elasticity. They used annual data from 1989 to 2013 classified by HS 4-digit grade. They also use a mean group estimator and find that more complex products respond less favorably to exchange rates.
sore (2015) studied how exchange rates affect pharmaceutical and non-pharmaceutical trade in Switzerland. Pharmaceuticals are complex and require extensive research and development. He uses annual panel data on Swiss trade with 24 partners between 1988 and 2007. He uses Arellano-Bond estimates and reports that Swiss franc appreciation has no impact on Switzerland’s trade balance for pharmaceutical products but reduces Switzerland’s trade balance for non-pharmaceutical products.
Bayardi et al. (2015) studied the price elasticity of clothing. Clothing is a low-tech commodity produced in many countries. They used annual data on apparel exports from 12 countries between 1992 and 2011, classified by 4-digit Standard Industrial Trade Classification categories. They measure relative prices as the ratio of the country’s export unit value for each 4-digit apparel category to the average export unit value of 11 other exporters of the same item. Using a systematic generalized method of moments, they find that price increases reduce exports in 11 of 12 countries. On average, a 10% relative price increase in these countries would reduce apparel exports by 7.5%.
Therefore, previous research shows that complex export products such as pharmaceuticals are not affected by exchange rates, while basic products such as clothing are. In recent work (Sobek et al., 2021 and Chen et al., 2023), we study the relationship between product complexity and exchange rate elasticity measured using the Hidalgo and Hausmann (2009) method in China, the world’s major exporter.we used Benassi-Querrey (2021) approach to estimating exchange rate elasticity. Sobek et al. China’s exports of 960 manufactured goods (classified by HS 4-digit number) to 190 partners between 1995 and 2018 were studied. They reported that a 10% appreciation of the renminbi would lead to a 2.5% decline in exports for the most sophisticated, 4.5% for the medium and high-end, 6.8% for the medium-sized, 8.5% for the medium-low, and 12.4% for the least sophisticated (see figure 2). Chen et al. China’s exports of 1,242 commodities (according to HS 4-digit classification) to 190 partners between 1995 and 2018 were studied. They find that appreciation significantly reduced exports in the 1990s and early 2000s. However, as China’s production capacity increases and it exports technologically advanced products, its exchange rate flexibility decreases.
figure 2: The relationship between exchange rate elasticity and the complexity of China’s export products. Note: Real exchange rate elasticity is estimated based on China’s exports of 960 manufactured goods to 190 countries classified at the 4-digit level of the Harmonized System during 1995-2018. The 960 categories were classified into five complexity levels using the method of Hidalgo and Hausmann (2009). The exchange rate interacts with a dummy variable for complexity. Regression variables also include the importing country’s real GDP and importer product and time fixed effects. Source: Author’s calculations.
Lessons from the United States
For the appreciation mentioned in the opening paragraph, the Swiss, Japanese and British exchange rates subsequently depreciated. However, the U.S. real effective exchange rate remains strong. latest estimate It shows that the strong dollar causes the steady-state exports of the United States to decrease and the steady-state trade deficit of the United States to increase.
this Atlas of Economic Complexity The report said that between 2000 and 2021, the complexity ranking of the U.S. economy fell by 8 spots, while the ranking of the Chinese economy rose by 21 spots during this period. According to Atlas, Japan, South Korea and Singapore ranked among the top five most complex economies in the world in 2021. Historically, the success of East Asian economies in climbing the technological ladder and producing cutting-edge products has been driven by factors such as entrepreneurs. Faced with appropriate incentives, hard-working and well-educated workers, disciplined fiscal policy, high national savings rates, world-class infrastructure, and a not too strong exchange rate. To increase the complexity of its exports and better cope with periods of strong exchange rates, the United States should follow Asia’s lead. It should also avoid policy combinations such as expansionary fiscal policy and contractionary monetary policy that lead to sharp appreciation of the dollar.
refer to
Abiad, A., Baris, K., Bertulfo, D., Camingue-Romance, S., Feliciano, P., Mariasingham, J., Mercer-Blackman, V., & Bernabe, J. 2018. The Impact of Trade on Conflict in Developing Asia. (Working Paper No. 566). Manila: Asian Development Bank.
Arbatli, E. and Hong, G. H. 2016. Singapore’s export resilience: A disaggregated study of the role of global value chains and economic complexity (Working Paper No. 16-52). Washington, DC: International Monetary Fund.
Asian Development Bank. 2018. Asian Development Outlook Update: Maintain Uncertainty increases, stability remains. Manila: Asian Development Bank.
Baiardi, D., Bianchi, C., and Lorenzini, E.. 2015. Price and income elasticities of top apparel exporters: Evidence from panel data analysis. Asian Journal of Economics 38:14-30.
Bénassy-Quéré, A., Bussière, M., & Wibaux, P. 2021. Trade and currency weapons. review of international economics29: 487-510.
Chen, C., Salike, N., and Thorbecke, W. 2023. The impact of exchange rates on Chinese exports: Product complexity and exchange rate elasticity.Coming soon asian economy Magazine,
Hidalgo, C. A., and Hausmann, R. 2009. The cornerstone of economic complexity. Proceedings of the National Academy of Sciences USA 106(26):10570–75.
Krugman, P. 2016. Brexit and Sterling Notes. The Conscience of Liberal Blogs, October 11.
Mody, A. 2016. Don’t believe what you read: Pound’s plunge is good news for Britain. independentOctober 10th.
Sauré, P. 2015. Swiss elastic trade surplus, pharmaceutical industry and exchange rate assessment. (Working Paper No. 15-11). Washington, DC: Peterson Institute for International Economics.
Thorbecke, W., Chen, C., and Salike, N. 2021. The relationship between product complexity and exchange rate elasticity: Evidence from the manufacturing industry in the People’s Republic of China. asian development review38: 189-212.
[1] real effective exchange rate data From the Bank for International Settlements.
This article was written by William Sobeck.
