Import Switching and the Impact of a Large Devaluation

In Colombia, from 1998 to 1999, during a large external shock the RER depreciated by 26% and import value dropped 32%. Since imports became more expensive during the devaluation, we would expect increases in exit of firms from the import market as well as larger dropped varieties for continuing firms. However, using detailed firm level import transactions, we find that compared to normal times the value from firms dropped varieties and exit falls. To be sure, we do find that firms use less imported varieties, but its due to fewer adding of new imported varieties rather than more dropping of varieties. Regarding firms adjustment mechanisms, we find: 1) Most importers add and drop import varieties all the time. 2) Firms add and drop varieties with similar intensity. 3) Both the values of added and dropped products by continuing firms comove negatively with the exchange rate, as does entry and exit. Our findings suggest firms select their imported varieties, and reorganize their imported inputs and production over time. We introduce searching for imported inputs into a model with endogenous choice of import intermediate inputs. Firms search for imported inputs suppliers and reorganize their input usage. With an imported input cost shock, e.g., a devaluation, the benefit from searching new suppliers decreases, which leads to less adding and dropping in firms' imported inputs. Our model focuses on the dynamic aspects of import reorganization, and shows that a devaluation can slow down the import churning and lead to larger TFP declines beyond those previously found. The model predicts more productive firms use more imported inputs, and do more adding and dropping at the same time. During the devaluation, there are fewer firms add and drop import varieties, and if they do, the shares of adding and dropping among their total import decreases. In the data, firm level imports switching behavior is consistent with these predictions, and results are robust to controlling for export switching behavior.