Does the Financial Channel of Exchange Rates Offset the Trade Channel?

19 Pages Posted: 22 Dec 2016

See all articles by Jonathan Kearns

Jonathan Kearns

Bank for International Settlements (BIS) - Monetary and Economic Department

Nikhil Patel

Bank for International Settlements (BIS)

Date Written: December 11, 2016

Abstract

While the trade channel indicates that an exchange rate depreciation will stimulate domestic economic activity, the financial channel can have the opposite effect. When banks and non-banks have foreign currency liabilities, an exchange rate depreciation has valuation effects that can lead to a tightening in domestic financial conditions. Using trade-weighted exchange rates and new BIS-constructed debt-weighted exchange rates to separate these influences, this article finds that the financial channel partly offsets the trade channel for emerging market economies but the effect is weaker for advanced economies.

JEL Classification: F31, F41, F43, G15

Suggested Citation

Kearns, Jonathan and Patel, Nikhil, Does the Financial Channel of Exchange Rates Offset the Trade Channel? (December 11, 2016). BIS Quarterly Review December 2016, Available at SSRN: https://ssrn.com/abstract=2888240

Jonathan Kearns (Contact Author)

Bank for International Settlements (BIS) - Monetary and Economic Department ( email )

Centralbahnplatz 2
CH-4002 Basel
Switzerland

Nikhil Patel

Bank for International Settlements (BIS) ( email )

Centralbahnplatz 2
Basel, Basel-Stadt 4002
Switzerland

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