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Spot exchange rate volatility, uncertain policies and export investment decision of firms: a mean-variance decision approach

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  • Subhadip Mukherjee
  • Soumyatanu Mukherjee
  • Tapas Mishra
  • Udo Broll
  • Mamata Parhi

Abstract

This paper studies characteristics of optimal investment decisions of risk-averse firms who engage in exports under two types of risks: endogenous and background risks. While endogenous risk arises from the fluctuations in spot exchange rate and affects directly the profit of an exporting firm, background risk arises from uncertain changes in firm- and industry-specific domestic and foreign policies. We propose a mean-variance decision-theoretic model to trace out impact of perturbations in the distributions of these uncertainties on the optimal investment strategy. A testable empirical model is derived and applied to a panel of 840 exporting Indian manufacturing firms for the period 1995–2015. Our results suggest that Indian manufacturing exporters depict decreasing absolute risk aversion and that firms’ risk preferences are prone to variance vulnerability.

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  • Subhadip Mukherjee & Soumyatanu Mukherjee & Tapas Mishra & Udo Broll & Mamata Parhi, 2021. "Spot exchange rate volatility, uncertain policies and export investment decision of firms: a mean-variance decision approach," The European Journal of Finance, Taylor & Francis Journals, vol. 27(8), pages 752-773, May.
    • Handle: RePEc:taf:eurjfi:v:27:y:2021:i:8:p:752-773
    DOI: 10.1080/1351847X.2020.1842785
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