## sdnea2020005

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### EXECUTIVE SUMMARY — INTRODUCTION
- Documents two features of international trade and finance: "dominant currency pricing" (DCP) and "dominant currency financing" (foreign currency corporate funding, notably in US dollars) and explores implications for exchange-rate–mediated external rebalancing and macro shock buffering.
- Organization:
  - Documentation of dominant currency pricing (manufacturing and services).
  - Discussion of dominant currency financing (macro and firm-level evidence).
  - Concluding key takeaways and implications, including for the COVID crisis.

### DOMINANT CURRENCY PRICING — Key concepts and implications
- Definition:
  - Dominant currency pricing: trade prices are often set in a third‑country currency (not exporter’s currency), with the US dollar playing a dominant role.
- Comparison with producer currency pricing (Mundell‑Fleming framework):
  - Producer currency pricing: depreciation increases import prices in home currency and reduces imports; depreciation reduces export prices in destination currency and increases exports — expenditure switching through both exports and imports.
  - Dominant currency pricing: depreciation increases import prices in home currency and reduces imports, but export prices faced by trading partners do not move (their exchange rates vis‑à‑vis the dominant currency unchanged), so exports remain unchanged in the short term — external rebalancing and buffering role of exchange rates are weaker in the short term.
- Condition: invoicing/pricing effects matter under price stickiness; if prices are fully flexible, invoicing currency has no bearing on trade outcomes.

### EVIDENCE FROM MANUFACTURING TRADE — patterns, data, and dynamics
- Empirical patterns:
  - The US dollar dominates in trade invoicing, especially across emerging market and developing economies.
  - A significant share of bilateral trade between countries other than the United States is invoiced in US dollars.
  - The euro is used widely primarily in trade involving euro area economies; other major currencies (British pounds, yen, Swiss francs) are significant mainly in transactions involving their issuing economies.
- Data construction and coverage:
  - Granular information on trade invoicing currencies is scarce.
  - An IMF–ECB joint project assembled a panel dataset of trade invoicing currencies providing shares of exports and imports invoiced in US dollars, euros, home currency and other currencies at the annual frequency over the period 1990-2019 for over 100 countries.
  - The dataset encompasses about 75 percent of global trade.
- Stability over time:
  - Prevalence of US dollar invoicing varies across countries but has been fairly stable over time.
  - US dollar invoicing has been clearly dominant in Asian and Latin American emerging market and developing economies with very stable shares over the past two decades.
  - Some advanced economies (Australia, Japan and New Zealand) also show stable US dollar invoicing with somewhat lower shares.
  - Exceptions: countries trading heavily with the euro area where use of the euro increased following its inception.

### PRICING AND PASS‑THROUGH — empirical framework and findings
- Sample and empirical setup:
  - Sample for bilateral manufacturing trade prices and quantities: 37 advanced and emerging market economies during 1990–2014.
  - Estimates exchange rate pass‑through (ERPT) and volume elasticities to bilateral exchange rate and exchange rate vis‑à‑vis the US dollar, with short‑term (same year) and medium‑term (three years after) effects; controls include bilateral and global demand/supply shocks.
- Key pass‑through findings:
  - Trade‑weighted regressions find pass‑through from the US dollar exchange rate positive and statistically significant even after controlling for bilateral exchange rate movements, for both export and import prices.
  - Short‑term pass‑through from the US dollar exchange rate is higher than from the bilateral exchange rate.
  - Unweighted regressions (more representative of smaller economies) show stronger evidence of US dollar dominance.
  - Over the medium term: US dollar role in price pass‑through diminishes for large economies as US dollar prices adjust; for smaller economies, US dollar effects persist longer.
- Trade volume responses:
  - Bilateral depreciation vis‑à‑vis the trading partner’s currency increases export volumes to that partner and reduces import volumes from that partner (traditional response).
  - Depreciation vis‑à‑vis the US dollar alone (bilateral rates unchanged) is associated with a contraction in both exports to and imports from trading partners (other than the United States) when trade is largely invoiced in US dollars.
  - Volume effects are more pronounced in unweighted regressions and over the medium term.
  - Dominant currency pricing weakens external rebalancing via trade volumes in the short term; over the medium term, expenditure switching through exports gradually reemerges as US dollar‑invoiced prices adjust.

### QUANTITATIVE TRADE‑BALANCE SCENARIOS (selected figures from Chapter 2)
- Baseline (trade‑weighted) trade‑balance magnitude (assumed 10 percent depreciation and 0.15 openness):
  - Short‑run stand‑alone effect (10 percent depreciation vis‑à‑vis all currencies): 0.322*** (percent of GDP).
  - Medium‑term stand‑alone effect: 1.177*** (percent of GDP).
- Unweighted regressions (small economies emphasis):
  - Short‑run stand‑alone effect: 0.562*** (percent of GDP).
  - Medium‑term stand‑alone effect: 1.055*** (percent of GDP).
- Direct evidence by degree of US dollar invoicing (weighted regression, assumed 10 percent depreciation and 0.15 openness):
  - Stand‑alone (short run): 0.330* (percent of GDP).
  - Stand‑alone (medium term): 1.126*** (percent of GDP).
  - Stand‑alone with USD invoice share at 99 pctile (short run): 0.314** (percent of GDP).
  - Stand‑alone with USD invoice share at 99 pctile (medium term): 1.295*** (percent of GDP).

### SERVICES TRADE AND SECTORAL HETEROGENEITY
- Aggregate trends:
  - Services trade expanded three times faster over the past decade and now accounts for 25 percent of global trade in gross terms and 40 percent in value‑added terms.
  - Advanced economies increasingly specialized in services exports; emerging market and developing economies increasingly specialized in manufacturing exports.
- Key distinctions affecting invoicing choice:
  - Share of intermediate inputs: manufacturing average = 26.7 percent (2016); services average = 8.7 percent.
  - Share of labor input: manufacturing average = 27.9 percent; services average = 57.5 percent.
  - Implication: higher domestic input intensity and labor intensity in services lowers sensitivity of production costs to exchange rate movements → greater incentive to price in producer’s currency.
  - Barriers to entry and proximity effects in services also influence currency choice.
- Empirical findings:
  - Using the Trade in Services Database (11 one‑digit services industries, >200 countries, >4,000 country pairs, 1995–2017), both bilateral and US dollar exchange rates affect bilateral services trade flows.
  - Relative magnitudes suggest lower prevalence of DCP in services than in manufacturing (interpretation is suggestive due to data limitations).
- Sectoral heterogeneity:
  - Short term: US dollar exchange rate more important than bilateral exchange rates in transportation, travel, telecommunications, computer services, and information technology.
  - US dollar exchange rate not significant in financial services and other business services.
- Tourism quantitative evidence:
  - When the currency of a tourism destination country (exporter) appreciates 10 percent vis‑à‑vis that of the origin country, tourism arrivals at the destination fall 2.7 percent in the short term and more than 4 percent in the medium term. Hotel nights fall by a similar magnitude.
  - Depreciation of the tourists’ (importer’s) currency against the US dollar discourages outbound tourism by about half the magnitude in the short term.
  - Tourism quantities show evidence of both PCP and DCP in the short term but with significantly lower prevalence of DCP than in manufacturing; in the medium term tourism quantities become insensitive to US dollar exchange rates while more sensitive to bilateral exchange rates.

### DOMINANT CURRENCY FINANCING — mechanisms and implications
- Firms, especially in emerging market economies, often rely on US dollar funding.
- Joint role of pricing and financing currencies:
  - If US dollar used for both pricing and financing, exporters’ revenues and liabilities are matched → a “natural hedge” → financial channel immaterial for exporters.
  - Importers with local‑currency pricing but US dollar borrowing face currency mismatch; depreciation tightens financing and reduces import volumes.
- Summary of expected effects of a depreciation (domestic currency vis‑à‑vis all other currencies):
  - Under both PCP and DCP, the financial channel reinforces expenditure switching through imports.
  - Effects on export volumes are ambiguous under PCP and significantly weaker under DCP.

### MACRO EVIDENCE ON FOREIGN CURRENCY BORROWING AND TRADE RESPONSES
- Foreign currency debt in nonfinancial firms rose rapidly since the early 2000s, especially in emerging market economies and after the global financial crisis.
- Average ratios of foreign currency debt to total debt have been relatively stable, indicating an overall increase in indebtedness.
- Reliance on foreign currency financing remains significantly higher in emerging market economies than in advanced economies.
- Two indicators for corporate foreign currency exposure (36 major advanced and emerging market economies, 2001–19):
  - Top‑down: purges BIS Global Liquidity Indicators’ nonfinancial foreign currency debt of government and household components using BIS Locational Banking Statistics and IMF Monetary and Financial Statistics.
  - Bottom‑up: sums foreign currency corporate debt securities (BIS International Debt Statistics), cross‑border foreign currency loans to nonfinancial firms (BIS Locational Banking Statistics), and local foreign currency loans to nonfinancial firms (IMF Monetary and Financial Statistics).
- Aggregate analysis (response to a 1 percent depreciation vis‑à‑vis all other currencies):
  - Greater contraction in imports in response to a depreciation in countries that rely more on foreign currency financing (all reported estimates significant at the 1 percent level).
  - Degree of foreign currency financing in exporting countries does not materially alter the effect of exchange rates (not shown).

### MICRO EVIDENCE — Colombian natural experiment (2014)
- Firm‑level panel: nearly 22,000 firms over 2012–17 combining trade transactions, firm balance sheets, and bank credit registry.
- Key estimates and findings:
  - One standard deviation higher foreign currency leverage = 3.2%.
  - Firms with higher foreign currency leverage experienced significantly larger contractions in imports following the more than 50 percent depreciation of the Colombian peso vis‑à‑vis the US dollar.
  - No visible effect of foreign currency leverage on exports (consistent with high prevalence of US dollar invoicing → exporters naturally hedged).
  - Firms with higher foreign currency leverage reduced foreign currency borrowing significantly more and partially offset with higher local currency funding.
  - Firm‑level results report statistical significance at the 99 percent level (***).

### FINANCIAL CHANNEL ESTIMATES — Appendix 3 selected numeric outputs
- Table A3.2 (Weighted regressions) short‑run selected estimates (dependent variables PX, PM, QX, QM; columns (1)–(4)):
  - ER elasticity (col 1): 0.649*** (0.0379)
  - ER elasticity (col 2): 0.753*** (0.0351)
  - ER elasticity (col 3): 0.0557 (0.0691)
  - ER elasticity (col 4): -0.122* (0.0658)
  - Combined effect (col 1): 0.647*** (0.0309)
  - Combined effect (col 2): 0.799*** (0.0281)
  - Combined effect (col 3): 0.00401 (0.0567)
  - Combined effect (col 4): -0.282*** (0.0533)
  - Observations: 8,674 (for each column)
  - R‑squared: 0.264 (col 1), 0.278 (col 2), 0.243 (col 3 and 4)
  - Lags: 3; Dyad FE: YES; Year FE: YES
- Table A3.2 medium‑run panel (sum of contemporaneous and three lags) selected estimates:
  - ER elasticity (col 1): 0.631*** (0.0712)
  - ER elasticity (col 2): 0.649*** (0.0592)
  - ER elasticity (col 3): 0.0296 (0.0633)
  - ER elasticity (col 4): -0.148** (0.0699)
  - Combined effect (col 1): 0.634*** (0.0614)
  - Combined effect (col 2): 0.733*** (0.0461)
  - Combined effect (col 3): 0.0340 (0.0596)
  - Combined effect (col 4): -0.275*** (0.0523)
  - Observations: 8,674; R‑squared: 0.341 (col 1), 0.370 (col 2), 0.484 (col 3 and 4)
- Table A3.3 (Estimates by US dollar invoicing share) short‑run highlights (selected entries):
  - PX, importer USD invoicing S=0 (col 1): Stand‑alone ER elasticity 0.596*** (0.0582); Combined effect 0.623*** (0.0487).
  - PX, S=1 (col 2): Stand‑alone ER elasticity 0.753*** (0.0844); Combined effect 0.668*** (0.0579).
  - QX, PCP case (col 5): Stand‑alone ER elasticity 0.191* (0.115); Currency induced FXD effect -0.250** (0.121); Combined effect -0.0588 (0.0917).
  - QX, DCP case (col 6): Stand‑alone ER elasticity -0.111 (0.127); Currency induced FXD effect 0.189 (0.126); Combined effect 0.0778 (0.104).
  - Observations: 7,511; Lags: 3; Dyad FE: YES; Year FE: YES.

### MACRO AND POLICY IMPLICATIONS
- Where DCP and dominant currency financing are widespread:
  - Short‑term response of trade volumes to exchange rates is muted and manifests mostly through imports.
  - Buffering the domestic economy from macro shocks or rebalancing external positions will generally require larger exchange‑rate movements.
  - Larger exchange‑rate movements can carry adverse side effects (balance‑sheet losses, inflation), implying supportive macroeconomic policies may be needed.
- Exchange‑rate flexibility remains a key mechanism to facilitate durable, medium‑term external adjustment as invoiced prices adjust.
- Importance of data: pricing and financing currency features vary across countries and time; granular data on both is essential to assess exchange‑rate flexibility merits and currency choice determinants.

### IMPLICATIONS FOR THE COVID CRISIS
- US dollar dominance implies observed weakening of emerging and developing countries’ currencies is unlikely to provide a material short‑term boost:
  - Goods export responses will be muted.
  - Sectors normally responsive to exchange rates—like tourism—are likely impaired by COVID containment measures and behavioral changes.
- A generalized strengthening of the US dollar may magnify the short‑term fall in global trade and economic activity via:
  - Higher domestic prices of traded goods and services.
  - Negative balance sheet effects on importing firms.
  - Lower demand for imports throughout the emerging and developing world.

### DATA GAPS AND RESEARCH PRIORITIES
- Tackling data gaps on invoicing and financing currencies at firm and aggregate levels is paramount.
- The structure of invoicing currencies may be as important as composition of trading partners for measuring short‑term competitiveness; current competitiveness indicators may need revamping or complementing with invoicing‑currency‑based measures.
- Pricing and financing currency choices are interrelated; granular firm‑ or sector‑level data mapping both are essential to:
  - Understand market frictions producing DCP and foreign currency financing patterns.
  - Evaluate implications for exchange rate flexibility.
  - Design appropriate macroeconomic policies.
- Greater efforts in data collection are key for further progress.

*Source: sdnea2020005 — IMF staff analysis as presented in the supplied extract.*

### EXECUTIVE SUMMARY __________________________________________________________________________ 5

### EXECUTIVE SUMMARY

### INTRODUCTION
- The note documents two features of international trade and finance: "dominant currency pricing" and "dominant currency financing", and explores their implications for how exchange rates can help external rebalancing and buffer macroeconomic shocks.
- Organization: documentation of dominant currency pricing (manufacturing and services), discussion of dominant currency financing (macro and firm-level evidence), and concluding key takeaways and implications, including for the COVID crisis.

### DOMINANT CURRENCY PRICING — Key concepts and implications
- Dominant currency pricing: trade prices are often set in a third-country currency (not exporter’s currency), with the US dollar playing a dominant role.
- Comparison with producer currency pricing (Mundell-Fleming framework):
  - Producer currency pricing: depreciation increases import prices in home currency and reduces imports; depreciation reduces export prices in destination currency and increases exports — expenditure switching through both exports and imports.
  - Dominant currency pricing: depreciation increases import prices in home currency and reduces imports, but export prices faced by trading partners do not move (their exchange rates vis-à-vis the dominant currency unchanged), so exports remain unchanged in the short term; therefore, external rebalancing and the buffering role of exchange rates are weaker in the short term.
- Conditions: the invoicing/pricing effects are relevant under price stickiness; if prices are fully flexible, invoicing currency has no bearing on trade outcomes.

### DOMINANT CURRENCY PRICING — Evidence from manufacturing trade
- Empirical patterns:
  - The US dollar dominates in trade invoicing, especially across emerging market and developing economies.
  - A significant share of bilateral trade between countries other than the United States is invoiced in US dollars (Figure 1).
  - The euro is used widely primarily in trade involving euro area economies; other major currencies (British pounds, yen, Swiss francs) are significant mainly in transactions involving their issuing economies.
- Data limitations and dataset construction:
  - Granular information on trade invoicing currencies is scarce; many countries do not collect or do not publish such data.
  - An IMF–ECB joint project assembled a panel dataset of trade invoicing currencies providing shares of exports and imports invoiced in US dollars, euros, home currency and other currencies at the annual frequency over the period 1990-2019 for over 100 countries.
  - The dataset encompasses about 75 percent of global trade.
  - Greater efforts are needed from national authorities to broaden coverage and increase granularity (e.g., invoicing currencies in bilateral trade, or by sector/products).
- Stability over time:
  - The prevalence of US dollar invoicing varies across countries but has been fairly stable over time (Figure 2).
  - US dollar invoicing has been clearly dominant in Asian and Latin American emerging market and developing economies with very stable shares over the past two decades.
  - Some advanced economies (for example, Australia, Japan and New Zealand) also show stable US dollar invoicing with somewhat lower shares.
  - Exceptions: countries trading heavily with the euro area (non-euro European and Northern African countries, some Sub-Saharan African countries using the euro as a vehicle currency) where use of the euro increased following its inception.

### DOMINANT CURRENCY PRICING — Services trade and sectoral heterogeneity
- Dominant currency pricing appears common in both goods and services trade, but is less prevalent in services—especially some sectors like tourism.
- Cross-country differences in services versus manufacturing specialization may account for varying responses to exchange rates.
- Over time, traditional exchange rate effects via both export and import volumes gradually reemerge as prices become more flexible, especially in larger economies where US dollar pricing is less prevalent.

### DOMINANT CURRENCY FINANCING — Key concepts and implications
- Firms, especially in emerging market economies, often rely on US dollar funding.
- Exchange rate fluctuations can impact trade flows through balance sheet effects when firms finance operations in currencies other than domestic currency.
- Joint pricing and financing currencies determine the strength of exchange rate effects:
  - If the US dollar is used for both pricing and financing, exporting firms are naturally "hedged" (revenues and liabilities matched) and the financial channel is immaterial.
  - Importing firms with revenues and liabilities not matched can experience balance sheet effects from exchange rate fluctuations that reinforce adjustment through import volumes.

### MACRO AND POLICY IMPLICATIONS
- Where dominant currency pricing and financing are widespread:
  - The short-term response of trade volumes to exchange rates is likely to be more muted and manifested mostly through imports.
  - Buffering the domestic economy from macroeconomic shocks or rebalancing external positions will generally require larger exchange rate movements.
  - This may justify supportive macroeconomic policies when large exchange rate fluctuations carry adverse side effects (design of specific policies is beyond the scope of the note).
- Exchange rate flexibility remains a key mechanism to facilitate durable, medium-term external adjustment.
- Importance of data: pricing and financing currency features vary across countries and time; a granular picture of both is essential to assess the merits of exchange rate flexibility and to understand currency choice determinants; addressing data gaps is paramount.

### IMPLICATIONS FOR THE ONGOING COVID CRISIS
- The dominance of the US dollar implies that the observed weakening of emerging and developing countries’ currencies is unlikely to provide a material boost to their economies in the short term because:
  - The response of goods exports will be muted.
  - Sectors that would normally respond more to exchange rates—like tourism—are likely to be impaired by COVID-related containment measures and changes in consumer behavior.
- A generalized strengthening of the US dollar may magnify the short-term fall in global trade and economic activity:
  - Higher domestic prices of traded goods and services.
  - Negative balance sheet effects on importing firms.
  - Lower demand for imports throughout the emerging and developing world.

*DOMINANT CURRENCIES AND EXTERNAL ADJUSTMENT, INTERNATIONAL MONETARY FUND*

### 1. Exports to the US and Invoiced  in US Dollars

### 1. Exports to the US and Invoiced  in US Dollars

### Dominance of the US dollar in invoicing and pricing
- The role of the US dollar “appears to have remained largely unscathed since the inception of the euro.”
- High pass-through from the US dollar exchange rate to domestic currency prices indicates dominance of US dollar pricing even for bilateral trade between country pairs that do not include the United States.
- US dollar dominance is more pronounced in unweighted regressions (greater prevalence in emerging market and developing economies) than in trade-weighted regressions (more representative of larger economies).
- As US dollar prices adjust over the medium term, the role of the US dollar diminishes for large economies; for smaller economies, US dollar dominance appears longer-lived.

### Empirical framework, data, and estimation scope
- Sample for bilateral manufacturing trade prices and quantities: 37 advanced and emerging market economies during 1990–2014.
- Empirical strategy estimates exchange rate pass-through (ERPT) and volume elasticities to:
  - bilateral exchange rate (currency of trading partner), and
  - exchange rate vis-à-vis the US dollar,
  - with short-term (same year) and medium-term (three years after) effects.
- Controls include bilateral and global demand/supply shocks; analysis examines trade balance and trade openness alongside ERPT and volume elasticities.

### Exchange rate pass-through findings (prices)
- Trade-weighted regressions (more representative of larger economies) find pass-through from the US dollar exchange rate positive and statistically significant even after controlling for bilateral exchange rate movements, for both export and import prices.
- Short-term pass-through from the US dollar exchange rate is higher than from the bilateral exchange rate, indicating the share of bilateral trade priced in US dollars exceeds shares priced in the producer or destination currency.
- Unweighted regressions (more representative of smaller economies) show stronger evidence of US dollar dominance.
- Over the medium term:
  - US dollar role in price pass-through diminishes for large economies as US dollar prices adjust.
  - For smaller economies, US dollar effects on prices persist longer.

### Trade volume responses and implications for external adjustment
- Bilateral depreciation vis-à-vis the currency of a trading partner produces the traditional response: export volumes to that partner increase and import volumes from that partner fall.
- Depreciation vis-à-vis the US dollar alone (with unchanged bilateral rates vis-à-vis other currencies) is associated with a contraction in both exports to and imports from trading partners (other than the United States).
  - Mechanism: when trade is largely invoiced in US dollars and the US dollar appreciates (so other currencies depreciate), countries other than the United States face higher domestic-currency prices for their imports, reducing demand for those imports and lowering trade with other economies.
- Volume effects are more pronounced in unweighted regressions, especially over the medium term, highlighting higher prevalence of US dollar invoicing and stronger volume responses in smaller economies.
- As US dollar prices gradually adjust over the medium term, the relevance of the US dollar in driving trade volumes diminishes for larger economies, while effects are more persistent in smaller economies.
- Dominant currency pricing weakens external rebalancing via trade volumes and limits the buffering role of exchange rates:
  - In the short term, a depreciation vis-à-vis all other currencies causes a contraction in import volumes (standard expenditure switching), but export volumes show muted response because trading partners face unchanged US dollar prices and thus do not change quantities demanded.
  - Over the medium term, expenditure switching through exports gradually reemerges, increasing the overall trade-balance response to exchange rate movements.
- Quantified scenario: estimated effect of a 10 percent depreciation vis-à-vis all other currencies is used to evaluate contributions of trade volumes to external rebalancing (short term = same year; medium term = cumulative three years later) for a country with a median degree of trade openness.

### Global implications
- An appreciation (depreciation) of the US dollar vis-à-vis all other currencies entails a contractionary (expansionary) effect on global trade and economic activity when trade is invoiced in US dollars.
  - Rationale: US dollar appreciation raises domestic-currency import prices for countries other than the United States, lowering demand for their exports and reducing global trade.

### Evidence from services trade
- Services trade has expanded three times faster over the past decade and now accounts for 25 percent of global trade in gross terms and 40 percent in value-added terms.
- Services trade exhibits growing specialization: advanced economies increasingly specialized in services exports; emerging market and developing economies increasingly specialized in manufacturing exports.
- Key distinctions between services and manufacturing that affect pricing:
  - Use of domestic inputs: average share of intermediate inputs in gross manufacturing output was 26.7 percent in 2016, compared with 8.7 percent for services; average share of labor input was 27.9 percent for manufacturing, compared with 57.5 percent for services.
    - Implication: higher domestic input intensity in services lowers sensitivity of production costs to exchange rate movements, giving greater incentive to price in the producer’s currency.
  - Barriers to entry and market power: services often have greater regulatory barriers and network externalities, contributing to incentives to price in local currency to preserve market shares.
  - Proximity burden: many services require proximity and cannot be stored, so strategic currency choice depends on where the service is delivered and competitor pricing at that location (producer-currency pricing when trade takes place at exporter’s location; local-currency pricing when competing with local providers at the customer’s location).

### Services trade empirical findings
- Data limitations: no bilateral price and quantity data for most services sectors; invoicing-currency data for services are virtually nonexistent.
- Using the Trade in Services Database covering 11 one-digit-level services industries in more than 200 countries and over 4,000 country pairs during 1995–2017, elasticities indicate both bilateral and US dollar exchange rates affect bilateral services trade flows.
- Relative magnitudes suggest lower prevalence of dominant currency pricing in services than in manufacturing, though this is suggestive due to data limitations.
- Over the medium term, the effect of the bilateral exchange rate strengthens while the effect of the US dollar exchange rate declines; similar patterns hold when weighting toward larger economies.

### Sectoral heterogeneity in services and tourism specifics
- Prevalence of US dollar pricing varies significantly across service sectors:
  - In the short term, US dollar exchange rate is more important than bilateral exchange rates in transportation, travel, telecommunications, computer services, and information technology.
  - The US dollar exchange rate does not play a significant role in financial services and other business services.
  - Variation may reflect differences in price adjustment frequency, reliance on imported intermediate inputs, and market concentration.
- Tourism (services) evidence from quantity data:
  - When the currency of a tourism destination country (exporter) appreciates 10 percent vis-à-vis that of the origin country, tourism arrivals at the destination are found to fall 2.7 percent in the short term and more than 4 percent in the medium term. Hotel nights spent fall by a similar magnitude.
  - Depreciation of the tourists’ (importer’s) currency against the US dollar also discourages outbound tourism, although by only half the magnitude in the short term.
  - Tourism quantities show evidence of both producer currency pricing and dominant currency pricing in the short term, but with significantly lower prevalence of dominant currency pricing than in manufacturing.
  - In the medium term, tourism quantities become insensitive to US dollar exchange rates while becoming more sensitive to bilateral exchange rates.

*Source: sdnea2020005 - 1. Exports to the US and Invoiced  in US Dollars (International Monetary Fund).*

### 16.      The US dollar is commonly used in cross-border corporate financing, notably in emerging

### sdnea2020005 - 16.      The US dollar is commonly used in cross-border corporate financing, notably in emerging

### Mechanisms: pricing and financing currencies
- Dominant use of the US dollar in trade invoicing and cross-border financing makes US dollar funding systematically cheaper and widely used.
- Two pricing regimes shape exchange rate transmission:
  - Producer currency pricing (PCP):
    - If trade is priced in the producer/exporter currency, a depreciation increases export volumes and reduces import volumes (expenditure switching effect).
    - Local-currency financing: no currency mismatch between financing and revenues → financial channel through exports is muted.
    - Foreign-currency borrowing: currency mismatch arises; depreciation tightens financing for exporters and importers, dampening export volume response and amplifying import volume response relative to local currency borrowing.
  - Dominant currency pricing (DCP), especially US dollar invoicing:
    - Exporters’ net revenues in US dollars are stable; depreciation has similar impact on exporters’ revenues and financial costs (natural hedge) → financial channel through exports is muted.
    - Importers who borrow in US dollars face a mismatch between pricing (local currency) and financing (US dollars); a depreciation can tighten financial conditions and reduce import volumes relative to local currency borrowing.
- Summary of expected effects of a depreciation (domestic currency vis-à-vis all other currencies):
  - Under both PCP and DCP, the financial channel reinforces expenditure switching through imports.
  - Effects on export volumes are ambiguous under PCP and significantly weaker under DCP.

### Macro evidence on foreign currency borrowing and trade responses
- Foreign currency debt in nonfinancial firms has risen rapidly since the early 2000s, especially in emerging market economies, and after the global financial crisis—partly reflecting the low-interest-rate environment in advanced economies.
- Average ratios of foreign currency debt to total debt have been relatively stable, indicating an overall increase in indebtedness.
- Reliance on foreign currency financing remains significantly higher in emerging market economies than in advanced economies, with significant within-group variation.
- Two indicators constructed for corporate foreign currency exposure (covering 36 major advanced and emerging market economies during 2001–19):
  - Top-down: purges BIS Global Liquidity Indicators’ nonfinancial foreign currency debt of government and household components using BIS Locational Banking Statistics and IMF Monetary and Financial Statistics.
  - Bottom-up: sums foreign currency corporate debt securities (BIS International Debt Statistics), cross-border foreign currency loans to nonfinancial firms (BIS Locational Banking Statistics), and local foreign currency loans to nonfinancial firms (IMF Monetary and Financial Statistics).
- Aggregate analysis (response to a 1 percent depreciation vis-à-vis all other currencies):
  - Greater contraction in imports in response to a depreciation in countries that rely more on foreign currency financing (all reported estimates significant at the 1 percent level).
  - Degree of foreign currency financing in exporting countries does not materially alter the effect of exchange rates (not shown).
- Export channel nuance:
  - When US dollar invoicing is low (PCP): depreciation increases exports via trade channel (stand-alone effect) but financial channel is negative because depreciation increases the burden of US dollar debt.
  - When US dollar invoicing is high (DCP): trade and financial channels through exports are muted; depreciation may improve exporters’ competitiveness and balance sheets but export prices in US dollars and export volumes remain unchanged.

### Micro-level evidence (Colombia, natural experiment 2014)
- Firm-level panel: nearly 22,000 firms over 2012–17 combining trade transactions, firm balance sheets, and bank credit registry.
- Key estimates:
  - One standard deviation higher foreign currency leverage = 3.2%.
  - Firms with higher foreign currency leverage experienced significantly larger contractions in imports following the more than 50 percent depreciation of the Colombian peso vis-à-vis the US dollar.
  - No visible effect of foreign currency leverage on exports (consistent with high prevalence of US dollar invoicing → exporters naturally hedged).
  - Firms with higher foreign currency leverage reduced foreign currency borrowing significantly more and partially offset with higher local currency funding.
  - Statistical significance: *** indicates significance at the 99 percent level in the reported firm-level results.
- Counterfactual exercise:
  - Import contraction would have differed substantially under hypothetical higher and lower levels of foreign currency financing (time series indexed to 2014Q3=1 shows actual imports versus hypothetical no FC leverage and hypothetical high FC leverage).

### Key takeaways and policy implications
- Dominance of the US dollar in trade invoicing leads to tepid short-term export volume responses to depreciation; effect is particularly pronounced in emerging market economies where US dollar invoicing is more widespread.
- US dollar invoicing is pervasive in manufacturing trade and prevalent, although seemingly less so, in services trade.
- Over time, the traditional exchange rate mechanism through both export and import volumes reemerges, especially in larger economies where US dollar pricing is less prevalent.
- The financing currency of firms shapes external adjustment through balance sheet effects:
  - Exposure to US dollar borrowing has limited impact on exporting firms (natural hedge under US dollar invoicing).
  - Reliance on foreign currency financing amplifies import contraction in response to domestic currency weakening, with potentially negative domestic economic effects.
- Policy design implications:
  - With weaker short-term response of trade volumes to exchange rates, rebalancing external accounts or buffering the domestic economy from shocks will generally require larger exchange rate movements.
  - Larger exchange rate movements can carry adverse side effects (through balance sheets or inflation), implying that other supportive policies may be needed.
  - These considerations are particularly important for emerging market and developing economies where DCP and foreign currency financing are more common.
- The US dollar’s dominance likely amplifies the impact of the COVID crisis:
  - Weakening of emerging and developing countries’ currencies is unlikely to provide material short-term boost to their economies because goods export responses are muted and sectors like tourism are impaired by containment measures and behavioral changes.
  - Generalized strengthening of the US dollar may magnify short-term falls in global trade and activity via higher domestic prices of traded goods and services and negative balance sheet effects on importing firms.

### Data gaps and research priorities
- Tackling data gaps on invoicing and financing currencies at firm and aggregate levels is paramount.
- The structure of invoicing currencies may be as important as the composition of trading partners for measuring short-term competitiveness; current competitiveness indicators may need revamping or complementing with invoicing-currency-based measures.
- Pricing and financing currency choices are interrelated; granular data mapping pricing and financing currencies at firm or sector level are essential to:
  - Understand underlying market frictions that produce DCP and foreign currency financing patterns.
  - Evaluate implications for exchange rate flexibility.
  - Design appropriate macroeconomic policies.
- Greater efforts in data collection are key for further progress.

*Source: IMF staff analysis as presented in the supplied extract.*

### Appendix 1. Dominant Currency Pricing

### Appendix 1. Dominant Currency Pricing

### Framework and notation
- Trade flow notation and identity:
  - 푇푇
    푎푎→푏푏
    푎푎
    = 푃푃
    푎푎→푏푏
    푎푎
    푄푄
    푎푎→푏푏
- Price decomposition (exporter’s currency):
  - 푃푃
    푎푎→푏푏
    푎푎
    = 휇휇
    푎푎→푏푏
    ∙ 푀푀퐶퐶
    푎푎→푏푏
    푎푎

### Pricing, demand, and exchange rate channels
- Quantity (demand) specification under sticky prices:
  - 푄푄
    푎푎→푏푏
    ≡ 푄푄
    푎푎→푏푏
    (푃푃
    푎푎→푏푏
    푏푏
    , 퐷퐷
    푎푎→푏푏
    )
  - Interpretation: quantities are demand-determined and depend on prices expressed in the importer’s currency and on a demand shock (퐷퐷
    푎푎→푏푏
    ).
- Exchange rate effects on bilateral trade from 풂풂 to 풃풃 operate through:
  - Direct channel: exchange rate pass-through to prices in the exporter’s currency (푃푃
    푎푎→푏푏
    푎푎
    ).
  - Indirect channel: exchange rate pass-through to prices in the importer’s currency (푃푃
    푎푎→푏푏
    푏푏
    ), which affects traded quantities.

### Mundell-Fleming, Producer Currency Pricing (PCP), and Local Currency Pricing implications
- Mundell-Fleming relevance:
  - The most relevant exchange rate for trade between countries 풂풂 and 풃풃 would be their bilateral exchange rate (푒푒
    푎푎푏푏
    ) under the Mundell-Fleming framework.
  - Mundell-Fleming imposes assumptions that rule out:
    - Product market frictions allowing exporters to charge different markups across destination markets; hence exporters’ markups (휇휇
      푎푎→푏푏
      ) do not respond to exchange rate changes.
    - Exporters’ use of imported intermediate inputs or decreasing marginal returns to labor; hence exporters’ marginal costs (푀푀퐶퐶
      푎푎→푏푏
      푎푎
      ) do not respond to exchange rate fluctuations.
- Pass-through predictions when markups and marginal costs do not respond to exchange rates:
  - Exchange rate pass-through to prices in the exporter’s currency = 0.
  - Exchange rate pass-through to prices in the importer’s currency = 1.
- Relation to pricing paradigms:
  - These predictions are consistent with the Producer Currency Pricing (PCP) paradigm:
    - Assumes international trade is invoiced in the currency of the exporter and that prices in that currency are rigid.
    - Nominal depreciation increases the price of imports relative to exports, thus improving competitiveness.

*Prepared by Gustavo Adler, Sergii Meleshchuk, and Carolina Osorio Buitron.*

### Chapter 2 of the 2019 External Sector Report

### Chapter 2 of the 2019 External Sector Report

### Pricing frameworks and implications for pass‑through
- Purchasing‑Country Pricing (PCP): law of one price holds under PCP (prices adjust across currencies to keep parity).
- Local Currency Pricing (LCP): prices are set and rigid in the currency of the importer; bilateral exchange rate movements lead to complete pass‑through to prices in the exporter’s currency and zero pass‑through to prices in the importer’s currency (a nominal depreciation of the exporter’s currency increases export prices relative to imports, deteriorating competitiveness).
- Dominant Currency Pricing (DCP): trade is frequently invoiced in a small number of “dominant currencies” (notably the US dollar). When prices are set in a third (dominant) currency ($), traded prices and quantities between countries a and b are affected by exchange rates vis‑à‑vis the dominant currency (e_a$ and e_b$) as well as by the bilateral rate (e_ab). Empirical findings motivate a DCP framework in which:
  - Pass‑through from the dominant currency to both export and import prices is high.
  - Pass‑through of the bilateral (nondominant) exchange rate is small.
  - Evidence is inconsistent with PCP and LCP in many contexts.

### Framework extension and trade‑balance response
- Country‑pair trade balance effect for a’s trade with b: TTa→b^a = P a→b^a Q a→b − P b→a^a Q b→a.
- Aggregating across partners yields Ta = sum_{j≠a} (P a→j^a Q a→j − P j→a^a Q j→a).
- Expressing trade‑balance response as a share of output combines price and quantity elasticities with trade openness (X/Y and M/Y) and yields:
  - d(TT_a)/Y_a = (terms involving dP/d e_ab, dQ/d e_ab, dP/d e_a$, dQ/d e_a$) weighted by X_a/Y_a and M_a/Y_a (full expression in text).
- Two thought experiments:
  - External adjustment: a movement of country a’s exchange rate vis‑à‑vis all other currencies (d e_aa = d e_a$ = d e for all j≠a).
  - Global US dollar shifts: movements in the US dollar vis‑à‑vis others (d e_a$ = d e; d e_aj = 0 for all j≠$).

### Empirical estimation approach
- Regressions estimated (building on Gopinath et al. (2020)) for country‑pair level changes in:
  - ln P a→b (prices quoted in exporter’s or importer’s currency) on lags of ln e_ab and ln e_a$ plus controls.
  - ln Q a→b (volumes) on the same set of exchange‑rate variables.
- Controls: country‑pair fixed effects, time fixed effects, exporters’ producer price index growth, importers’ consumer price index and GDP growth.
- Three lags of all variables are included to capture short‑ and medium‑term effects.
- Short‑term trade balance response (for a uniform depreciation d e) is given by:
  - dT_a^UE / Y_a = d e × (X_a/Y_a) × (β0_PX + β0_PX$ + β0_QX + β0_QX$) − d e × (M_a/Y_a) × (β0_PM + β0_PM$ + β0_QM + β0_QM$).
- Medium‑term response is the sum of contemporaneous and the three lagged coefficients.

### Data sources
- Bilateral trade volumes and price indices: dataset from Gopinath and others (2020) (methodology of Boz, Cerutti and Pugacheva (forthcoming)) constructed from COMTRADE at the commodity level.
- Bilateral exchange rates: IMF International Financial Statistics.
- Real GDP, real domestic demand, CPI, and PPI: IMF World Economic Outlook database.

### Baseline (trade‑weighted) results — key quantitative findings
- US dollar exchange rate is statistically and economically significant for traded prices and quantities in the short term, even controlling for bilateral rates.
- Export and import price coefficients on the US dollar exchange rate are symmetric (same prices expressed in exporter’s and importer’s currencies).
- Bilateral ER coefficients are higher for importer‑currency prices than exporter‑currency prices (prevalence of producer‑currency pricing over local‑currency pricing for non‑USD invoiced trade).
- Pass‑through dynamics:
  - Short term: exchange‑rate pass‑through to trade prices from importer and exporter perspectives is high (0.6–0.7), indicating little variation in terms of trade.
  - Medium term: pass‑through estimates fall by about half (prices in the dominant currency begin to adjust at longer horizons).
- Quantity responses:
  - Short term: asymmetric. Imports fall in response to a depreciation vis‑à‑vis all currencies (expenditure switching through imports), while exports do not react substantially in the short term because trading partners face the same US dollar price.
  - Medium term: the impact of a currency depreciation on quantities builds gradually and is driven primarily by bilateral exchange‑rate movements (standard expenditure switching through exports and imports reemerges).
- Trade‑balance magnitude (baseline weighted regression, assumed 10 percent depreciation and 0.15 openness):
  - Short‑run stand‑alone effect (10 percent depreciation vis‑à‑vis all currencies): 0.322*** (percent of GDP).
  - Medium‑term stand‑alone effect: 1.177*** (percent of GDP).
- Stand‑alone short‑run pass‑through coefficients in baseline weighted regression:
  - Stand‑alone pass‑through to exporter and importer prices reported in tables: 0.631*** and 0.795*** (short run) for price columns (see table entries).

### Unweighted regressions (greater weight to small economies)
- Unweighted regressions give greater importance to small economies where USD invoicing is more prevalent.
- Exchange‑rate pass‑through estimates are higher than in the weighted regression, driven by a larger USD exchange‑rate coefficient.
- Short‑term quantity responses remain asymmetric (negligible exports, negative imports), and asymmetry persists into the medium term in unweighted estimates: export quantity response is about one‑fourth the import elasticity (in absolute value).
- Trade‑balance effects (unweighted, assumed 10 percent depreciation and 0.15 openness):
  - Short‑run stand‑alone effect: 0.562*** (percent of GDP).
  - Medium‑term stand‑alone effect: 1.055*** (percent of GDP).

### Direct evidence by degree of US dollar invoicing (interaction analysis)
- Construction: for pair a→b, USD invoicing share U_a→b$ = GDP‑weighted average of (a’s export share invoiced in USD) and (b’s import share invoiced in USD).
- Interaction regressions include bilateral ER × USD invoice share and USD ER × USD invoice share.
- Findings for an economy with high USD invoicing (99th percentile = 0.96) versus no USD invoicing:
  - Combined pass‑through to export and import prices is higher in high‑USD‑invoicing economies: combined pass‑through ≈ 0.8 for high USD invoicing versus 0.5–0.7 for economies that do not invoice in USD.
  - Short‑term trade volume elasticities for high USD invoicing economy: exports ≈ negligible; imports ≈ −0.24.
  - For an economy with no USD invoicing: exports ≈ 0.1; imports ≈ −0.2.
  - Short‑term trade‑balance response:
    - Very similar across degrees of USD invoicing: a 10 percent depreciation raises the trade balance by about 0.30 percentage point of GDP.
  - Medium term: pass‑through estimates, quantity elasticities, and trade‑balance effects are quantitatively similar across low and high USD invoicing economies.
- Quantitative results from the direct evidence weighted regression (assumed 10 percent depreciation and 0.15 openness):
  - Stand‑alone (short run): 0.330* (percent of GDP).
  - Stand‑alone (medium term): 1.126*** (percent of GDP).
  - Stand‑alone with USD invoice share at 99 pctile (short run): 0.314** (percent of GDP).
  - Stand‑alone with USD invoice share at 99 pctile (medium term): 1.295*** (percent of GDP).
- Interpretation: DCP shapes the composition of external adjustment mainly in the short term (price vs quantity channels), while standard Mundell‑Fleming mechanisms operate over the medium term as invoiced prices adjust.

*Source: Chapter 2, 2019 External Sector Report (sdnea2020005).*

### Appendix 2. Measuring Foreign Currency Debt Exposure in the Nonfinancial

### Appendix 2. Measuring Foreign Currency Debt Exposure in the Nonfinancial Corporate Sector

### Coverage and measurement approach
- The overall measure is available for 36 major advanced and emerging market economies for 2001–19.
- Advanced economies comprise Australia, Austria, Canada, Denmark, Finland, France, Germany, Greece, Ireland, Italy, Japan, the Netherlands, Norway, Portugal, Sweden, United Kingdom, and the United States.
- Emerging market economies comprise Argentina, Brazil, Chile, China, the Czech Republic, Hungary, India, Indonesia, Israel, Korea, Malaysia, Mexico, the Philippines, Poland, Russia, South Africa, Thailand, and Turkey.
- Financial centers, such as Switzerland, Hong Kong SAR, Singapore, and the United Kingdom, are excluded from the analysis.
- The refined measure follows the methodology outlined in Box 2 and uses two approaches:
  - A “top-down” approach based on BIS Global Liquidity Indicators (may fail to purge noncorporate items).
  - A “bottom-up” approach that assembles corporate-specific items (may miss some locally-held foreign currency corporate debt).
- The two measures correlate well: the correlation between the two measures is greater than 0.8.
- The indicators reported in Figures 11 and 12 use an average of the two measures.
- For regression analysis the top-down measure is used due to superior coverage across time and countries.

### Data limitations and series availability
- Some disaggregated components in BIS Locational Banking Statistics and IMF Monetary and Financial Statistics are not always available since 2001 for all countries.
- Long time-series versions:
  - Top-down indicator: residual foreign currency loans (cross border and local) on government and household sectors available only since 2013, so long series do not purge these residuals prior to 2013.
  - Bottom-up approach: cross-border foreign currency loans to nonfinancial corporations available only since 2013, so long series exclude these cross-border items prior to 2013.
- Results are robust to using different versions or combinations of the two measures.

*Prepared by Carolina Osorio Buitron and Damien Puy.*

### Appendix 3. The Financial Channel of Exchange Rates—Macroeconomic Empirical Specification and Data

### Empirical specification
- Estimations are conducted at the bilateral level using observed price and volume of cross-border transactions between two countries.
- The baseline specification estimates four panel equations for:
  - Δt ln P_a→b^a (price of a trade flow from country a to b in exporter currency)
  - Δt ln P_a→b^b (price of same flow in importer currency)
  - Δt ln Q_a→b (volume of traded goods exports from a to b) (two equations for exporter/importer currency depreciation sides)
- Exchange-rate-induced balance sheet effect indicator:
  - Δt FXD_i,t^C = FX_i,t−1^sh × Δln e_i$,t
  - Δln e_i$,t is the change in country i’s currency vis-à-vis the US dollar.
  - FX_i,t−1^sh is country i’s share of foreign currency debt to total debt in the nonfinancial corporate sector.
- Controls included in each equation:
  - country-pair fixed effects
  - time fixed effects
  - exporters’ producer price index growth
  - importers’ consumer price index and GDP growth
- The estimated equations include three lags for all variables to explore short- and medium-term effects.

### Data sources and sample choices
- Bilateral volumes and price indices: Gopinath and others (2020) COMTRADE-based dataset.
- Bilateral exchange rates: IMF International Financial Statistics.
- Real GDP, real domestic demand, CPI, PPI: IMF World Economic Outlook database.
- Share of foreign currency debt proxied using the top-down indicator (superior coverage).
- Exclusions: financial centers, countries that experienced crises over the sample period, and large commodity exporters among advanced economies.
- Baseline regressions are unweighted (unweighted regressions are used because exchange-rate-induced balance sheet effects are more prominent in emerging market and developing economies).

### Baseline results — main findings
- Focus of discussion: short-term (contemporaneous) effects, as balance sheet effects are more relevant over short horizons.
- Stand-alone estimates (first row of Table A3.1) consistent with dominant currency pricing (DCP) framework:
  - A depreciation is associated with high pass-through to trade prices.
  - Trade volumes respond to a depreciation of the importer’s currency but not a depreciation of the exporter’s currency.
- Exchange-rate-induced balance sheet effects (exporter and importer) do not affect short-term exchange rate pass-through estimates: coefficients capturing these effects in price equations are not statistically significant.
- Exporters’ foreign currency debt exposure does not affect trade volume elasticities: the coefficient in the second row of column 3 is not statistically significant.
- Importers’ foreign debt induced by a depreciation amplifies the negative response of trade volumes: the coefficient in the third row of column 4 is negative and statistically significant.
- Results are robust to:
  - estimating weighted regressions (Table A3.2),
  - using alternative measures of foreign currency debt (bottom-up or combinations).
- Consistency with recent literature: for emerging market economies higher foreign debt exposure is related to larger import volume elasticities, whereas exporters’ foreign debt does not seem to affect export volume elasticities.

### Key numeric outputs from regression tables (short-run highlighted)
- Table A3.2 (Weighted regressions) selected short-run estimates (dependent variables PX, PM, QX, QM; columns (1)–(4)):
  - ER elasticity (column 1): 0.649*** (standard error (0.0379))
  - ER elasticity (column 2): 0.753*** (0.0351)
  - ER elasticity (column 3): 0.0557 (0.0691)
  - ER elasticity (column 4): -0.122* (0.0658)
  - Combined effect (column 1): 0.647*** (0.0309)
  - Combined effect (column 2): 0.799*** (0.0281)
  - Combined effect (column 3): 0.00401 (0.0567)
  - Combined effect (column 4): -0.282*** (0.0533)
  - Observations: 8,674 (for each column)
  - R-squared: 0.264 (col 1), 0.278 (col 2), 0.243 (col 3 and 4)
  - Lags: 3; Dyad FE: YES; Year FE: YES
- Table A3.2 medium-run panel (sum of contemporaneous and three lags) selected short-run estimates:
  - ER elasticity (col 1): 0.631*** (0.0712)
  - ER elasticity (col 2): 0.649*** (0.0592)
  - ER elasticity (col 3): 0.0296 (0.0633)
  - ER elasticity (col 4): -0.148** (0.0699)
  - Combined effect (col 1): 0.634*** (0.0614)
  - Combined effect (col 2): 0.733*** (0.0461)
  - Combined effect (col 3): 0.0340 (0.0596)
  - Combined effect (col 4): -0.275*** (0.0523)
  - Observations: 8,674; R-squared: 0.341 (col 1), 0.370 (col 2), 0.484 (col 3 and 4)
- Table A3.3 (Estimates by US dollar invoicing share) short-run highlights:
  - Dependent variable PX (equation 5), importer USD invoicing S=0 (col 1): Stand-alone ER elasticity 0.596*** (0.0582); Currency induced FXD effect 0.0273 (0.0625); Combined effect 0.623*** (0.0487).
  - Dependent variable PX, S=1 (col 2): Stand-alone ER elasticity 0.753*** (0.0844); Currency induced FXD effect -0.0845 (0.0966); Combined effect 0.668*** (0.0579).
  - Dependent variable QX (equation 7), PCP case (col 5): Stand-alone ER elasticity 0.191* (0.115); Currency induced FXD effect -0.250** (0.121); Combined effect -0.0588 (0.0917).
  - Dependent variable QX, DCP case (col 6): Stand-alone ER elasticity -0.111 (0.127); Currency induced FXD effect 0.189 (0.126); Combined effect 0.0778 (0.104).
  - Observations: 7,511; R-squared shown per column (e.g., 0.299, 0.260, 0.307, 0.260); Lags: 3; Dyad FE: YES; Year FE: YES.

### Dollar pricing, natural hedge, and invoicing interactions
- Natural hedge hypothesis: exporters’ revenues denominated in US dollars can offset adverse exchange rate movements affecting exporters with foreign currency borrowing.
- Specification extension: interaction terms with U_b (share of trade invoiced in US dollars in destination country) are included to test PCP (U_b = 0) vs DCP (U_b = 1) cases.
- Under PCP (U_b = 0):
  - Combined exchange rate pass-through into exporter and importer currency prices equals:
    - exporter prices: (β0_PP + β0_PP$) + γ0_P × FXD_median
    - importer prices: (β0_PM + β0_PM$) + δ0_P × FXD_median
  - Trade volume elasticities to a depreciation:
    - exporter-side: (β0_QP + β0_QP$) + γ0_Q × FXD_median
    - importer-side: (β0_QM + β0_QM$) + δ0_Q × FXD_median
- Under DCP (U_b = 1), additional α and ρ interaction terms enter, modifying pass-through and volume responses.
- Table A3.3 results:
  - Short-term exchange rate pass-through estimates are higher when trade is invoiced in US dollars (DCP) than when not (PCP).
  - Exporters’ and importers’ foreign currency debt exposure impacts on pass-through estimates are economically or statistically insignificant in short-term price pass-through (second row, columns 1–4).
  - Short-term trade volume elasticities to an exporter depreciation under PCP (column 5): positive trade-channel effects are offset by adverse financial-channel effects (currency induced FXD effect negative and statistically significant), consistent with Bruno, Kim, and Shin (2018).
  - Under DCP (column 6): effects of exporter depreciation on trade volumes through trade and financial channels are not statistically significant.
  - For importer depreciation (columns 7 and 8), most of the effect on trade volumes comes through the financial channel: where importers have larger shares of foreign currency debt, import volume elasticities are larger irrespective of invoicing degree.

### Interpretation and implications
- Exporter depreciation:
  - Under PCP: depreciation can boost export competitiveness (trade channel) but may tighten financial conditions (financial channel), potentially offsetting volume gains.
  - Under DCP: exporter depreciation has limited effect on trade volumes because prices are sticky in US dollars; depreciation may boost exporter profits rather than quantities.
- Importer depreciation:
  - Importer-side foreign currency debt exposure amplifies negative responses of import volumes via the financial channel, making import volumes more sensitive to currency depreciations.
- Overall:
  - Exchange-rate-induced balance sheet effects matter asymmetrically: more important for importers’ volume responses than exporters’ volumes in these estimates.
  - Degree of US dollar invoicing moderates transmission: DCP raises short-run pass-through to prices but can mute quantity responses through different channels.

*Source: Appendix 2 and Appendix 3 of the staff discussion note content provided.*

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- Kalemli-Ozcan, S, X Liu and I Shim. 2018. "Exchange rate appreciations and corporate risk taking," BIS Working Papers no 710.

### Trade, services, and firm-level evidence
- Bernard, Andrew B., J. Bradford Jensen, and Peter K. Schott. 2009. Importers, Exporters and Multinationals: A Portrait of Firms in the US that Trade Goods. NBER Chapters, pp.513-552.
- Francois, Joseph, and Bernard Hoekman. 2010. "Services Trade and Policy." Journal of Economic Literature 48 (3): 642–92.
- Francois, Joseph, and Olga Pindyuk. 2013. "Consolidated Data on International Trade in Services." IIDE Discussion Paper 20130101, Institute for International and Development Economics, Rotterdam.
- Manova, Kalina and Zhiwei Zhang. 2009. “China’s exporters and importers: Firms, products and trade partners,” Technical Report, National Bureau of Economic Research.
- Kugler, Maurice and Eric Verhoogen. 2009. “Plants and imported inputs: New facts and an interpretation,” American Economic Review, 99(2), 501–07.
- Fitzgerald, Doireann, and Stefanie Haller. 2012. “Exchange Rates and Producer Prices: Evidence from Micro Data.” Working Paper, Stanford University, Stanford, CA.

### Models, theory, and methodological contributions
- Akinci, Ozge, and Albert Queralto. 2019. “Exchange Rate Dynamics and Monetary Spillovers with Imperfect Financial Markets." Federal Reserve Bank of New York Staff Reports.
- Gopinath, Gita, and Roberto Rigobon. 2008. “Sticky Borders.” Quarterly Journal of Economics 123 (2): 531–75.
- Gopinath, Gita, and Roberto Rigobon. 2008. “Sticky Borders.” Quarterly Journal of Economics 123 (2): 531–75.
- Gabaix, Xavier, and Matteo Maggiori. 2015. “International Liquidity and Exchange Rate Dynamics," Quarterly Journal of Economics 130 (3): 1369–420.
- Mukhin, D., 2018. “An Equilibrium Model of the International Price System,” mimeo.
- Boz, Emine, Gita Gopinath, and Mikkel Plagborg-Møller. 2018. “Global Trade and the Dollar," Harvard University, Cambridge, MA.
- Casas, Camila, J. Federico Diez, Gita Gopinath, and Pierre-Olivier Gourinchas. 2017. “Dominant Currency Paradigm: A New Model for Small Open Economies.” IMF Working Paper 17/264, International Monetary Fund, Washington, DC.

*INTERNATIONAL MONETARY FUND*

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_Source: https://www.imf.org/-/media/files/publications/sdn/2020/english/sdnea2020005.pdf_