Publications on: Exchange Rate Volatility

Exchange Rate Volatility and Trade Flows—Some New Evidence

Prepared by Peter Clark, Natalia Tamirisa, and Shang-Jin Wei, with Azim Sadikov, and Li Zeng

Approved by Raghuram Rajan

May 19, 2004

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Contents

Preface
 
Executive Summary
 
I.  Introduction and Overview
 
II.  Brief Review of the Theoretic and Empirical Literature
  A. Theoretical Aspects of the relationship Between Exchange Rate Volatility and Trade
  B. Empirical Results on the Relationship Between Exchange rate Volatility and Trade
 
III.  Recent History and Geography of Exchange Rate Volatility
  A. Measuring Exchange Rate Volatility
  B. Comparisons Using the Benchmark Measure of Volatility
  C. Alternative Measures of Volatility
 
IV.  New Evidence on the Effect of Exchange Rate Volatility on Trade
  A. Aggregate Volatility and Aggregate TradeóA First Look
  B. The Conceptual Framework for the Analysis of the Volatility Effect in Trade
  C. What Do the Data Tell Us?
 
V.  Summary and Concluding Remarks
 
Appendix: Do Countries with Stable Exchange Rates and Common Currency Trade More? An Empirical Analysis
I.  The Gravity Model
  A. Aggregate Trade
  B. Disaggregated Trade
II.  Data and Sources
  A. Aggregate Trade
  B. Disaggregated Trade
III.  Key Findings
  A. The Effect of Exchange Rate Volatility on TradeóMain Results
  B. Do Members of Currency Unions Trade More?
  C. Disaggregated Trade: Does Exchange Rate Volatility Have a Different Effect on Trade in Differentiated versus Homogeneous Products?
 
Text Tables
3.1  A Short-Run Effective Volatility of Real I.F.S. Exchange Rates in G-7 Countries by Major Country Groups: Decomposition of Volatility
3.1B  Short-Run Effective Volatility of Real I.F.S. Exchange Rates in G-7 Countries by Major Country Groups: Volatility within Groups
3.2  Average Effective Volatility Ranking (1970–2002)
3.3  Frequency Counting (f) for Top 5 (High Vol) and Bottom 5 (Low Vol) Lists (1970–2002)
3.4  Real Effective Volatility Across Country Groups by Type of Exchange Rate Regime
3.5  Real Effective Volatility Across Regimes and Time
4.1  Effect of Long-Run Real Exchange Rate Volatility on Aggregate Trade
4.2  Alternative Measures of Exchange Rate Volatility
4.3  Effect of Exchange Rate Volatility on Trade in Different Types of Products
 
References
 
Figures
3.1  Short-Run Effective Volatility of the Real Exchange Rate by Country Groups, 1970–2002
3.2  Short-Run Effective Volatility of the Real Exchange Rate for the G-7 Countries
3.3  Short-Run Effective Volatility of the Real Exchange Rate in Developing Countries Grouped by Geographic Region
3.4  Short-run Effective Volatility of the Real Exchange Rate in Two Developing Country Croups by Source of Export Earnings
3.5  Short-Run Effective Volatility of the Nominal Exchange Rate by Major Country Groups, 1970–2002
3.6  Long-Run Effective Volatility of the Real Exchange Rate by Major Country Groups
3.7  Long-Run Effective Conditional Volatility of the Real Exchange Rate by Major Country Groups
3.8  Long-Run Effective Volatility of the Real Exchange Rate in the G-7 Countries
4.1  Effective Volatility of the Real Exchange Rate and World Trade
4.2  Effective Volatility of the Real Exchange Rate and Trade: Major Country Groups
4.3  Effective Volatility of the Real Exchange Rate and Trade: Developing Countries by Region
4.4  Effective Volatility of the Real Exchange Rate and Trade: Developing Countries by Type of Export
 
Appendix Tables
III.1  List of Countries in Major Country Groupings
III.2  List of Countries in Regional Groups of Developing Countries and by Source of Export Earnings
III.3  List of Countries in the Real Parallel Exchange Rate Dataset
III.4  Short-run Effective Volatility of Real I.F.S. Exchange Rate: Smaller Sample of Major Country Groups
III.5  Short-Run Volatility of Real Parallel Exchange Rate: Smaller Sample of Major Country Groups
III.6  Correspondence Between the Official/IMF and Natural Regime Classification 1970–2001
III.7  Distribution of Exchange Rate Regimes Across Country Groups 1970–2001
III.8  Distribution of Exchange Rate Regimes Across Country Groups 1970–2001
IV.1  Summary Statistics and Correlations
IV. 2  The Role of Exchange Rate Volatility I Trade: Main Results
IV. 3  Alternative Measures of Volatility: Short-Run, Parallel Market, Nominal and Conditional
IV.4  Country-Pair Fixed Effects
IV.5  Time-Varying Country Effects
IV.6A  Controlling for Endogeneity of Exchange Rate Volatility: Relative Money Supply as IV
IV.6B  Controlling for Endogeneity of Exchange Rate Volatility: Common Anchor Dummy as IV
IV.6C  Controlling for Endogeneity of Exchange Rate Volatility: Propensity to Share a Common Anchor as IV
IV.7  Differentiation by Country Type
IV.8  Differentiation by Product Type (SUR)
IV.9  List of Countries in the Regressions with Disaggregated Trade
IV.10  Classification of Products into Homogeneous and Differentiated Categories