Leandro Navarro (University of Bayreuth)
Using transaction-level data on Swiss manufacturing firms, we observe that the choice of invoicing currencies in foreign markets differs considerably between exporters and multinationals, with the latter showing a higher probability to rely on local currencies in foreign markets. To explain this evidence, we set up a multi-country model, in which firms can enter the foreign market either as an exporter, concentrating production at home and shipping finished goods abroad, or as a multinational, producing part of their output locally in a foreign subsidiary. Due to an oligopolistic market structure there exists an a priori incentive of firms to choose the currency of their main competitors in the foreign market for invoicing. This incentive is mitigated, however, in the presence of exchange rate uncertainty and short-run nominal price rigidities, which makes the reduction of exchange rate risk a main concern of firms in their currency choice. An effective way to insure against exchange rate risk is to rely on home market currency for invoicing in foreign markets and this is what exporters do with higher probability if they face ex ante exchange rate uncertainty. Multinationals produce only part of their output at home, which reduces their exposure to exchange rate risk ceteris paribus. This makes multinationals more inclined to use local currencies in foreign markets for invoicing -- well in line with the evidence reported in our paper. In an extension of our model, we show that our reasoning extends to a setting with more than two countries and foreign investment for the purpose of export-platform activities. We also show that the different exposure of exporters and importers to exchange rate risk is an important, so far unexplored determinant of firms' foreign market entry modes.
Leandro Navarro (University of Bayreuth), Hartmut Egger (University of Bayreuth), Peter Egger (ETH Zürich), Katharina Erhardt (Düsseldorf Institute for Competition Economics)
Paul Nortz Saal (HWC)