Exchange Rate Movements and Their Impact on Trade and Investment in the APEC Region

Takatoshi Ito, Tamim Bayoumi, Peter Isard, and Steven Symansky

• Publisher: INTERNATIONAL MONETARY FUND
• Year: 1996
• ISBN:
  9781557756008

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Contents

Preface

I Overview

Takatoshi Ito and Peter hard

Long-Run Movements in Real Exchange Rates

International Trade and Real Exchange Rates

Foreign Direct Investment and the Exchange Rate

Concluding Perspectives

II Long-Run Movements in Real Exchange Rates

Peter Isard and Steven Symansky

Historical Perspectives for the APEC Region

Theories of the Long-Run Behavior of Exchange Rates

Empirical Methodologies and Findings from Studies of OECD Economies

Empirical Evidence for the APEC Region

Concluding Perspectives

References

III International Trade and Real Exchange Rates

Tamim Bayoumi

Patterns of Trade in the APEC Region

Trade and the Exchange Rate

Relative Prices

Exchange Rate Volatility

Estimated APEC Trade Elasticities

Impact of Changes in Bilateral Exchange Rates on Trade

Concluding Perspectives

Appendix: Estimation of the Trade Equations

References

IV Foreign Direct Investment and the Exchange Rate

Tamim Bayoumi, Leonardo Bartolini, and Michael Klein

Why FDI Instead of Portfolio Investment?

Effect of Exchange Rates on FDI

Empirical Evidence for the APEC Region

Concluding Perspectives

References

Tables

1-1. Per Capita GDP of APEC Members

2-1. Payments Restrictions Maintained by APEC Members, 1974–93

2-2. Real Exchange Rates and Per Capita GDP

2-3. Real Exchange Rates and Proximate Determinants, 1973 and 1992

3-1. Real Growth in Trade of Goods and Services and Output, 1973–93

3-2. Weights of United States and Japan in Merchandise Trade in 1993

3-3. Estimated Activity Elasticities

3-4. Estimated Real Exchange Rate Elasticities

3-5. Effect of Major Regional Currencies on Trade in the APEC Region

3-6. Export Regression Results

3-7. Import Regression Results

4-1. Ratios of Inward Foreign Direct Investment (FDI) to GDP

4-2. Composition of Net Capital Inflows for Selected APEC Economies, 1990–93

4-3. Cumulated Outflows of FDI from the United States and Japan, 1985–92

4-4. Results from FDI Regressions Using Real Effective Exchange Rates

4-5. Results from FDI Regressions Using Real Bilateral Exchange Rates

Figures

2-1. Nominal Exchange Rates and Ratios of GDP Deflators

2-2. Real Exchange Rates vis-à-vis the United States

2-3. Multilateral and Bilateral Real Exchange Rates

2-4. Real Exchange Rates and Levels of Per Capita GDP

2-5. Changes in Real Exchange Rates and Per Capita GDP

2-6. Changes in Relative Prices of Nontradables and Per Capita GDP

2-7. Real Exchange Rates and Contributions of Proximate Determinants

2-8. Real Exchange Rates and Relative Prices Across Countries

3-1. Proportion of Exports That Are Manufactures

3-2. Proportion of Imports That Are Manufactures

3-3. Openness to Trade

3-4. Trade Between the United States and the Rest of the APEC Region

3-5. Import and Export Weights

4-1. Ratio of Foreign Direct Investment (FDI) to GDP

4-2. U.S. and Japanese FDI Outflows by Region

I. Overview

Takatoshi Ito and Peter Isard

The 18 members of the Asia-Pacific Economic Cooperation Council (APEC) encompass both a wide geographic area and extensive differences in stages of economic development. At the same time, most of the APEC region has experienced a dynamic process of economic development over the past decade, driven to a considerable degree by trade liberalization and economic reforms.

The diverse stages of development of APEC members, and the rapid growth rates of many of them, are summarized in Table 1-1 (Brunei Darussalam has been excluded from this study because data are not readily available). The wide range of income levels may be noted from the first column of the table; for example, the four least developed members of APEC have per capita incomes no greater than 5 percent of the levels prevailing in the United States and Japan, the two most industrialized members. The relatively rapid growth rates of many APEC members, which are among the fastest-growing economies in the world, can be seen in the second column: 10 of the 17 APEC economies studied enjoyed average annual growth rates in excess of 3 percent over the 1983–93 decade; for six of these economies, growth rates have exceeded 5 percent. Such rapid growth has been facilitated by high levels of investment and trade and has given rise to extensive changes in industrial structures and international linkages. Moreover, in most APEC economies, macroeconomic policies have succeeded in sustaining impressive rates of growth without inducing excessive inflation.

Table 1-1. Per Capita GDP of APEC Members

¹ Excluding Brunei Darussalam.

² Per capita GDP measures represent national accounts data converted at 1990 exchange rates into constant (1990) U.S. dollars.

³ This study follows the IMF convention of using the name Taiwan Province of China to refer to the economy called Chinese Taipei on the official APEC membership list.

⁴ 1981-91.

The wide-ranging levels of economic development and rapid rates of growth of the APEC members make them an attractive sample on which to base a study of medium-to long-term movements in real exchange rates and the impact of exchange rate changes on trade and investment. This Occasional Paper presents studies of three aspects of these topics. Section II focuses on long-run movements in real exchange rates; Section III considers international trade and real exchange rates in the APEC region; and Section IV examines foreign direct investment (FDI) and its relationship to exchange rates in the region.¹ A summary of these three sections follows.

Historical Perspectives for the APEC Region

The theories addressed in this section focus on the behavior of nominal exchange rates relative to various ratios of national price or cost levels. The ratio of the domestic national price level (P) to the foreign price level (P*), after multiplying by the nominal exchange rate (S) to convert domestic prices into foreign currency units, is commonly referred to as the real exchange rate (Q):

Widely used measures of real exchange rates include those based on ratios of GDP deflators, consumer price indices, wholesale price indices, export price indices, and unit labor costs.⁵

Figure 2-2 shows time series of annual data on four different real exchange rate measures for each of the APEC members vis-á-vis the United States.⁶ Three of the real exchange rate measures—in particular, those based on GDP deflators, consumer price indices, and export price indices—are constructed as the nominal exchange rate (in U.S. dollars per unit of domestic currency) multiplied by the relevant domestic price level divided by the corresponding U.S. price level.⁷ By contrast, the real exchange rates based on Penn price relatives are constructed from estimates of the relative domestic and U.S. prices for individual product categories, without using data on nominal exchange rates (a detailed description is provided in the discussion of empirical evidence, below).⁸ The graphs in Figure 2-2 start in 1960 but in some cases are limited by data availability. Figure 2-3 shows corresponding time series of multilateral real exchange rates based on national-source GDP deflators, along with the associated bilateral rates vis-á-vis both Japan and the United States.

Figure 2-2. Real Exchange Rates vis-á-vis the United States

(1973 = 100)

Figure 2-3. Multilateral and Bilateral Real Exchange Rates¹

(1973 = 100)

¹ Real exchange rates are based on GDP deflators. Multilateral rates are constructed using IMF Information Notice System (INS) total competitiveness weights, in which the weight of countryc in the multilateral exchange rate for countryjreflects the degree to which goods produced by the two countries compete directly in the home markets of countriesc and j and indirectly in third markets (see McGuirk, 1987).

Figure 2-2 reveals that, for most APEC members, the different measures of real exchange rates have diverged significantly over certain periods while also exhibiting fairly similar cyclical behavior.⁹ The discussion of the empirical evidence and the conclusions suggested by the analysis (below) focus on the relevance of both the cyclical similarities and the differences in long-run trends. Figure 2-3 shows that in virtually all cases the overall changes in multilateral rates have been somewhere in between the overall changes in bilateral rates against the dollar and against the yen; this reflects the importance to APEC members of trade with both Japan and the United States, together with the overall appreciation of the yen against the dollar. Figures 2-2 and 2-3 also reveal striking contrasts in exchange rate trends among different APEC members. With regard to the real exchange rates based on GDP deflators, consumer price indices, and Penn price relatives, Japan, Korea, and Taiwan Province of China have experienced substantial real appreciations vis-á-vis the United States since 1973; several other APEC members have experienced small-to-moderate depreciations; and China and Indonesia have had substantial depreciations.

In analyses of long-run trends in real exchange rates among the industrial countries, the real appreciation of the yen over the past two decades is generally associated with the relatively rapid expansion of output in Japan. As the analysis in this section shows, however, data for the APEC region suggest that the long-run relationship between output growth and real exchange rate appreciation is not robust. In particular, there are several members of APEC in which output growth since 1973 has been significantly more rapid than in Japan, while real exchange rates (vis-á-vis the United States) have not appreciated. Some reasons why rapid output growth has not always been accompanied by real exchange rate appreciation are addressed in the discussion of the empirical evidence, below.

Table 2-1 provides perspectives on the history of payments restrictions among APEC members, which may have some bearing on the range of exchange rate experiences. In particular, the table lists the time periods since the end of 1973 during which the members of APEC maintained restrictions on payments for current and capital transactions. For example, China restricted payments for both current and capital transactions during the entire period from the end of 1973 through the end of 1993. Thus, nominal exchange rates for the yuan during that period did not reflect market forces to the same extent as nominal exchange rates for the yen, which may partly explain why China is a significant outlier in Figure 2-1. Accordingly, theories about the behavior of real exchange rates in Japan (or other countries without extensive payments restrictions) cannot be applied to...

Table of contents

• Cover Page
• Title Page
• Copyright Page
• Contents
• Preface
• I Overview
• II Long-Run Movements in Real Exchange Rates
• III International Trade and Real Exchange Rates
• IV Foreign Direct Investment and the Exchange Rate
• Tables
• Footnotes