Effects of exchange rates and invoiced currencies on trade: Evidence from South Korea

This study examines the relationship between exchange rates and South Korea's trade flows considering invoicing currencies in line with the dominant currency paradigm. We use the trade weight data of South Korea's total and bilateral trade with its major trading partners. Our analysis of the elasticities of South Korea's trade with respect to bilateral exchange rates shows that a strong US dollar—the dominant invoiced currency—is associated with a decline in South Korea's imports, regardless of the country of origin. We also show that the Japanese yen, as the other dominant invoicing currency in bilateral trade between South Korea and Japan, has a similar effect to that of the US dollar. In addition, fluctuations in the invoicing share of dominant currencies improve the statistical significance of the effect of exchange rate changes. We also report the results at the sectoral level. Overall, our results are consistent with the dominant currency paradigm. Finally, according to the South Korea pass‐through results, which show that US dollar rate fluctuations affect both import and consumer prices immediately, South Korean importers seem to react quickly by changing trade quantities and domestic sales prices.