Open AccessVehicle Currency Pricing and Exchange Rate Pass-Through
Author(s) -
Natalie Chen,
Wanyu Chung,
Dennis Novy
Publication year - 2021
Publication title -
journal of the european economic association
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 7.792
H-Index - 93
eISSN - 1542-4774
pISSN - 1542-4766
DOI - 10.1093/jeea/jvab025
Subject(s) - currency , exchange rate , monetary economics , economics , inflation (cosmology) , exchange rate pass through , foreign exchange risk , referendum , international economics , politics , physics , theoretical physics , law , political science
Using detailed firm-level transactions data for UK imports, we find that invoicing in a vehicle currency is pervasive, with more than half of the transactions in our sample invoiced in neither sterling nor the exporter’s currency. We then study the relationship between invoicing currencies and the response of import unit values to exchange rate changes. We find that for transactions invoiced in a vehicle currency, import unit values are much more sensitive to changes in the vehicle currency than in the bilateral exchange rate. Pass-through therefore substantially increases once we account for vehicle currencies. This result helps to explain why UK inflation turned out higher than expected when sterling depreciated during the Great Recession and after the Brexit referendum. Finally, within a conceptual framework, we show why bilateral exchange rates are not suitable for capturing exchange rate pass-through under vehicle currency pricing. Overall, our results help to clarify why the literature often finds a disconnect between exchange rates and prices when vehicle currencies are not accounted for.