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International Trade, Hedging and the Demand for Forward Contracts

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  • Eisenschmidt, Jens
  • Wälde, Klaus

Abstract

One of the main results of the literature on the effects of uncertainty on trade states that uncertainty should not matter in the presence of well developed forward markets. Empirical studies, however, do not support this result. We derive the demand for forward cover in a small open economy with terms of trade uncertainty. Adopting a standard and more realistic decision structure than the one usually used in this literature, we find that risk averse agents will not buy forwards at an unbiased price. Agents treat forward contracts as an asset rather than as an insurance. This is the reason why, when calibrating the model, only 17% of imports are covered by forwards. --

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Paper provided by University of Würzburg, Chair for Monetary Policy and International Economics in its series W.E.P. - Würzburg Economic Papers with number 69.

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Date of creation: 2006
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Handle: RePEc:zbw:wuewep:69

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  1. Eldor, Rafael & Zilcha, Itzhak, 1987. "Discriminating Monopoly, Forward Markets and International Trade," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 28(2), pages 459-68, June.
  2. Agathe Cote, 1994. "Exchange Rate Volatility and Trade," International Trade 9406001, EconWPA, revised 23 Jun 1994.
  3. Peter B. Clark, 1973. "Uncertainty, Exchange Risk, And The Level Of International Trade," Economic Inquiry, Western Economic Association International, vol. 11(3), pages 302-313, 09.
  4. Viaene, Jean-Marie & Zilcha, Itzhak, 1998. "The Behavior of Competitive Exporting Firms under Multiple Uncertainty," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 39(3), pages 591-609, August.
  5. Ethier, Wilfred, 1973. "International Trade and the Forward Exchange Market," American Economic Review, American Economic Association, vol. 63(3), pages 494-503, June.
  6. Philippe Bacchetta & Eric van Wincoop, 1998. "Does Exchange Rate Stability Increase Trade and Capital Flows?," Working Papers 98.04, Swiss National Bank, Study Center Gerzensee.
  7. Broll, Udo & Zilcha, Itzhak, 1992. "Exchange rate uncertainty, futures markets and the multinational firm," European Economic Review, Elsevier, vol. 36(4), pages 815-826, May.
  8. Harald Hau & Hélène Rey, 2006. "Exchange Rates, Equity Prices, and Capital Flows," Review of Financial Studies, Society for Financial Studies, vol. 19(1), pages 273-317.
  9. Adam-Muller, Axel F. A., 2000. "Hedging price risk when real wealth matters," Journal of International Money and Finance, Elsevier, vol. 19(4), pages 549-560, August.
  10. Maurice Obstfeld & Kenneth Rogoff, 1998. "Risk and Exchange Rates," NBER Working Papers 6694, National Bureau of Economic Research, Inc.
  11. Zilcha, Itzhak & Broll, Udo, 1992. "Optimal hedging by firms with multiple sources of risky revenues," Economics Letters, Elsevier, vol. 39(4), pages 473-477, August.
  12. Kawai, Masahiro & Zilcha, Itzhak, 1986. "International trade with forward-futures markets under exchange rate and price uncertainty," Journal of International Economics, Elsevier, vol. 20(1-2), pages 83-98, February.
  13. Shang-Jin Wei, 1998. "Currency Hedging and Goods Trade," NBER Working Papers 6742, National Bureau of Economic Research, Inc.
  14. Maddison, Angus, 1987. "Growth and Slowdown in Advanced Capitalist Economies: Techniques of Quantitative Assessment," Journal of Economic Literature, American Economic Association, vol. 25(2), pages 649-98, June.
  15. Peree, Eric & Steinherr, Alfred, 1989. "Exchange rate uncertainty and foreign trade," European Economic Review, Elsevier, vol. 33(6), pages 1241-1264, July.
  16. Benninga, Simon & Eldor, Rafael & Zilcha, Itzhak, 1985. "Optimal international hedging in commodity and currency forward markets," Journal of International Money and Finance, Elsevier, vol. 4(4), pages 537-552, December.
  17. Viaene, Jean-Marie & de Vries, Casper G., 1992. "International trade and exchange rate volatility," European Economic Review, Elsevier, vol. 36(6), pages 1311-1321, August.
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