Anubha Dhasmana

India’s Real Exchange Rate and Trade Balance: Fresh Empirical Evidence

This paper studies the relationship between India’s real exchange rate and its trade balance with her major trading partners using quarterly trade data for 15 countries over the period 1975 Q1-2011 Q1. Apart from oft used bilateral trade model we use Pooled Mean Group estimator of Pesaran and Smith (1995) to get direct estimates of long term income and real exchange rate elasticities. We find that real exchange rate depreciation is positively associated with the trade balance in the long run. At the same time real exchange rate volatility is negatively correlated with India’s trade balance in the long run.

Transmission of Real Exchange Rate Changes to the Manufacturing Sector Performance

We explore the impact of Real Exchange Rate changes on the performance of Indian manufacturing firms over the period 2000-2012. Our empirical analysis shows that real exchange rate movements have a significant impact on Indian firms’ performance through the import cost channel but not the export competitiveness channel. The impact depends upon the degree of market power as reflected in the industry specific Herfindahl index. Further, appreciation and depreciation affect firms’ performance differently. Overall, our results point towards the need for an effective reserve management policy to deal with sudden movements in exchange rate in the short run while maintaining a competitive exchange rate in the long run.

Threshold Effects of Foreign Reserve Holdings in Developing Countries

Foreign reserves play an important role in insuring developing countries against exogenous shocks and reducing the probability of panic driven crisis. While the literature on foreign reserves has so far focused on determining the ‘required’ or ‘optimal’ level of reserves based on various parameters such as volatility of export revenues, opportunity cost of holding reserves etc., little attention has been paid to the impact of reserve holdings in the event of shocks. This paper tries to bring some insight in to the role of reserves in shaping the response of developing countries to exogenous price and capital flow shocks. We find important threshold effects of reserves on the behavior of key macro variables in the face of exogenous shocks. Ignoring these effects would provide us with misleading results regarding the cost of exogenous shocks and adequacy of reserve levels.

Operational Currency Exposure and Firm Level Performance: Evidence from India

Abstract Purpose To study the determinants and effects of “Operational” exchange rate exposure resulting from the mismatch between cost and revenues of the firms by using data on 500 Indian firms. Design/methodology/approach We conduct detailed empirical analysis of the determinants of firm level exposure and their impact using panel regression techniques and conduct several robustness tests to confirm the validity of these results. Findings Among other factors, exchange rate volatility appears as a significant determinant of average firm level exposure with the direction of relationship supporting the presence of “Moral Hazard” in firm’s risk-taking behavior. Further large “operational” exposure is associated with significantly lower output growth, profitability, and capital expenditure during episodes of large currency depreciation at the firm level. Research limitations/implications This paper leaves several questions to be answered. Further research is called for to explore the nature of distortions in the production process encouraged by exchange rate volatility and their impact on firm level productivity. Looking at the relationship between the use of financial and operational hedges is another fruitful area of future research. Practical implications Our results have important implications for policy makers worried about mitigating the impact of exogenous shocks. Implicit and explicit guarantees with regards to the value of exchange rate tend to raise the vulnerability of the economy to exchange rate shocks at same time that they encourage capital expenditures and possibly output growth during “normal” times. Our findings indicate that the policy makers must take into account the incentive effects of their intervention in foreign exchange markets. Originality/value Unlike the existing papers in the literature, we use a measure of “operational” currency exposure based on foreign currency revenues and costs of firms. In most of the existing papers the focus is on the mismatch between the currency denomination of assets and liabilities. Little attention has been paid to the currency mismatch between costs and revenues of the firms. Such “operational” mismatches are potentially equally important and deserve attention of policy makers and academics alike.

Exchange Rate Uncertainty and Employment Dynamics: Evidence from India

This paper studies the impact of real exchange rate volatility on firm level employment using a dynamic panel data model applied on a panel of 700 Indian manufacturing firms. Real exchange rate volatility is found to have a significant and negative impact on firm level employment growth. Access to domestic equity finance is found to reduce the negative impact of exchange rate uncertainty significantly but the same cannot be said about foreign equity finance. Further, exposure to international trade in the form of exports and imports affects employment dynamics in the face of exchange rate uncertainty.

Transmission of Real Exchange Rate to the Manufacturing Sector: Role of Financial Access

We explore the impact of Real Exchange Rate changes on the performance of Indian manufacturing firms over the period 2000-2012. Our empirical analysis shows that real exchange rate movements have a significant impact on Indian firms’ performance but the impact varies across different firm and industry characteristics. In particular the impact depends upon the degree of market power, trade orientation, foreign ownership, access to domestic finance and industry concentration. Further, appreciation and depreciation affect firms’ performance differently. Results from Panel-VAR confirm these findings. Overall, our results point towards the need for taking in to account firm and industry level heterogeneity in designing policies aimed at managing exchange rate shocks and also the role of greater financial development in currency risk management.

Real Exchange Rate Volatility and Employment: Role of External Sector Exposure

This paper studies the impact of real exchange rate volatility on firm level employment using a difference-in-difference model applied on a panel of 900 manufacturing firms. Trade exposure as measured by the difference between the shares of exports and imports in a firm’s total revenues and input costs respectively, emerges as an important determinant of firm’s response to higher exchange rate volatility. Firms with a positive trade exposure are found to experience a larger increase, or a smaller decrease, in employment growth than similar “non-exposed” firms in response to an increase in real exchange rate volatility. The impact of exchange rate volatility on employment is found to be non-linear in trade exposure. Finally, domestically owned firms respond differently to exchange rate shocks as compared to the foreign owned firms. Similarly, exporters respond differently to higher exchange rate volatility than the non-exporters.

Operational Currency Mismatch and Firm Level Performance: Evidence from India

This paper looks at the determinants and effects of exchange rate exposure using data on 500 Indian firms over the period 1995-2011. Unlike the existing papers in the literature, we use a measure of `operational` currency exposure based on foreign currency revenues and costs of firms. Among other factors, exchange rate volatility appears as a significant determinant of average firm level exposure with the direction of relationship supporting the presence of `Moral Hazard` in firm’s risk taking behavior. Further large `operational` exposure is associated with significantly lower output growth, profitability and capital expenditure during episodes of large currency depreciation at the firm level. Together this indicates that the policy makers must take into account the incentive effects of their intervention in foreign exchange markets.

Real Effective Exchange Rate and Manufacturing Sector Performance: Evidence from Indian Firms

We explore the impact of Real Exchange Rate changes on the performance of Indian manufacturing firms over the period 2000-2012. Our empirical analysis shows that real exchange rate movements have a significant impact on Indian firms’ performance through the cost as well as the revenue channel. The impact depends upon the share of imports & exports along with the degree of market power as reflected in the time varying firm level mark up. However, presence of overvaluation negates the beneficial effects of exchange rate appreciation operating through the lower input cost channel. The same cannot be said about the ‘price competitiveness’ effect working through the export channel.

A Generic Model for Public Provision of Insurance in the Presence of Externalities

Emerging markets are subject to exogenous shocks that are more frequent and bigger in size compared to the developed countries. Structural weaknesses such as currency mismatches in their balance sheets make these shocks even costlier. Yet, often times these countries are found having insufficient coverage against such shocks. Using a general equilibrium framework this paper looks at alternative government policies to encourage adequate provision of insurance when private decisions are not optimum socially. It also studies the impact of such policies on growth performance of the economy. A tax cum transfer scheme is found to be more effective in encouraging private provision of insurance compared to direct supply of hedging against shocks by the government. The optimal tax rate in our model depends on the extent to which decentralized level of insurance is socially sub-optimal.