Hedge Your Costs: Exchange Rate Risk and Endogenous Currency Invoicing

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Hedge Your Costs: Exchange Rate Risk and Endogenous Currency Invoicing

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Novy, Dennis (Department of Economics, University of Warwick)

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Dennis Novy

Abstract

The choice of invoicing currency for trade is crucial for the international transmission of macroeconomic policy. This paper develops a three-country model that endogenizes the choice of invoicing currency and that allows for a share of firms' costs to be denominated in foreign currency, consistent with the empirical evidence on the high degree of pass-through to import prices. Invoicing decisions are driven by firms' desire to hedge costs but also by exchange rate volatility and currency comovements. The model is tested empirically with a data set that spans ten currencies and 24 reporting countries, confirming the importance of currency comovements for the decision to invoice in vehicle currency. The findings also imply that if the U.S. share of world output continues to fall, other currencies will increasingly replace the U.S. dollar as an international vehicle currency.

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Publisher Info
Paper provided by University of Warwick, Department of Economics in its series The Warwick Economics Research Paper Series (TWERPS) with number 765.

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Date of creation: 2006
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Handle: RePEc:wrk:warwec:765

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Find related papers by JEL classification:
F3 - International Economics - - International Finance
F4 - International Economics - - Macroeconomic Aspects of International Trade and Finance

This paper has been announced in the following NEP Reports:

NEP-ALL-2006-10-14 (All new papers)
NEP-CBA-2006-10-14 (Central Banking)
NEP-FMK-2006-10-14 (Financial Markets)
NEP-INT-2006-10-14 (International Trade)

References listed on IDEAS
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Betts, Caroline & Devereux, Michael B., 2000. "Exchange rate dynamics in a model of pricing-to-market," Journal of International Economics, Elsevier, vol. 50(1), pages 215-244, February. [Downloadable!] (restricted)
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Other versions:
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Other versions:
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Other versions:
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Other versions:
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