Dominant Currency Paradigm

Citation:

Gopinath, Gita, Emine Boz, Camila Casas, Federico Diez, Pierre-Olivier Gourinchas, and Mikkel Plagborg-Moller. 2019. “Dominant Currency Paradigm”.
DCP922 KB

Abstract:

Most trade is invoiced in very few currencies. Yet, standard models assume prices are set in either the producer’s or destination’s currency. We present instead a ‘dominant currency paradigm’ with three key features: pricing in a dominant currency, pricing complementarities, and imported input use in production. We test this paradigm using both a newly constructed data set of bilateral price and volume indices for more than 2,500 country pairs that covers 91% of world trade, and very granular €firm-product-country data for Colombian exports and imports. In strong support of the paradigm we €find that: (1) Non-commodities terms of trade are essentially uncorrelated with exchange rates. (2) ‘The dollar exchange rate quantitatively dominates the bilateral exchange rate in price pass-through and trade elasticity regressions, and this e‚ffect is increasing in the share of imports invoiced in dollars. (3) U.S. import volumes are signi€cantly less sensitive to bilateral exchange rates, compared to other countries’ imports. (4) A 1% U.S. dollar appreciation against all other currencies predicts a 0.6% decline within a year in the volume of total trade between countries in the rest of the world, controlling for the global business cycle.

Notes:

Under revision for the American Economic Review
Last updated on 06/12/2019