August 19, 2016

Promoting Use of Local Currency in International Trade Settlement: An Assessment on Asian Experiences

Dr. Khin Maung Nyunt, Senior Economist


(Continued from yesterday)
Findings under firm-level survey are as follows:
(i)    The same currency was largely used for price setting, invoicing and settlement of exports to third parties;
(ii)  All firms used the same currency for price setting and invoicing for all their export revenues from third parties;
(iii)     Invoicing currency could differ from the price setting currency because of a “request from the customer”;
(iv)  The U.S. Dollar was the main alternative for exports;
(v)      Currency choice was similar for exports of the intra-firm and inter-firm.
(vi)  The increase in the use of the Euro stemmed from both increased trade with EU member countries, but also as a vehicle currency. As a vehicle currency, the use of the U.S. Dollar has been greater than the Euro since 2001;
(vii)  Firms changed price in 3.5 times per year on average;
(viii)  Negotiations were important in setting choice of invoicing currency;
(ix)   Use of the customer’s currency did not depend on large markets or large orders;
(x)   To minimize the risk of price deviations across countries a limited set of currencies was used for setting prices;
(xi)     An objective of risk management was to minimize the variability of cash flow.

Lessons Learned
The same currency is used to a very large extent in pricing, invoicing and settling payment simplifying international comparisons of the currency denomination in international trade. The finding that average prices changed frequently, points to macroeconomic implications indicating domestic price and interest rate effects. If the invoicing currency is also the pricing currency, there is a clear link between invoicing and exchange rate pass-through.
The findings clearly show the trend towards less use of dollar to reduce the FX risk, especially for exports, but also for imports. This implication is potentially important; if both exports and imports have similar currency denominations, changes in net exports will lead to changes in demand for the local (domestic) currency, especially if domestic firms do not immediately (or ever) convert foreign currency payments to the domestic currency. It points to the importance of the liquidity of the local currency. This increase has come at the expense of local currency. The use of the U.S. dollar as a vehicle currency is larger than the use of the Euro. One possibility could be that international payments in Euro can be conducted at less cost than international payments in other currencies in the absence of the Eurozone crisis.
This implies that the choice of invoicing currency constitutes an important strategic pricing decision of a firm. In addition, exporters also performed effectively price-discriminate between markets, and took into account destination-specific market conditions when setting prices. Moreover, promoting use of local currencies of ASEAN countries in the intra-ASEAN or ASEAN+5 trade in a certain extent would increase substantially the regional trade.
In conclusion, the costs of the dependence on currencies outside of the region for the settlement of trade in the region results in cost for converting currencies for trade settlement; the instability in export prices in response to exchange rate changes and costs of hedging exchange rate risks. In contrast, the merits of using the local currencies for trade settlement reveals encouraging efficiency in trade and investment transactions; lowering the above mentioned transaction costs of a currency; enhancing export competitiveness arising from cost effectiveness; and promoting trade and investment at the firm, country and regional levels.
The policy recommendations can be drawn as follows: removal of the restrictions on capital flow so as to establish a secure trade settlement system; development of strategic trade policy for market diversification, in particular, in the European market in the framework of use of euro as vehicle currency; encouragement of bilateral and regional trade and investment under ASEAN+5 and Closer Economic Relations (CER) countries adoption of foreign exchange regulation policy and regulations to foster the use of local and regional currencies in trade and investment; introduction of new trade settlement systems to facilitate more use of local currencies at firm, national and regional levels; development of sound financial markets; promotion of strategic intra-regional production and trade networks in major export industries and engaging in financial cooperation programs and monetary coordination in the region. With respect to coordination of exchange rate policy within Asian countries, ‘easing the foreign exchange regulation and capital control’ was considered as an important policy, in comparison, ‘the local currencies denominated Asian bond market’ as a priority option in policy coordination. At the country level, improving the factors affecting choice of invoice currency outlined above are crucial.
Auboin,  Marc, 2012, “Use of Currencies in International Trade: Any Changes in the Picture?”,  Staff Working Paper ERSD-2012-10, World Trade Organization (WTO), May.
Bacchetta, Philippe and van Wincoop, Eric, 2005, “A theory of the currency denomination of international trade,” Journal of International Economics 67(2),295–319.
Donnenfeld, Shabtai and Alfred Haug, 2003, “Currency invoicing in international trade: an empirical investigation”, Review of International Economics 11,332–345.
Goldberg L.S., and C. Tille, 2008, “ Vehicle currency use in international trade”  Journal of International Economics 76, 177–192.
Kamps, Annette, 2006, “The euro as invoicing currency in international trade”, European Central Bank. Working paper No.665 (August).
Krugman, Paul, 1980, “Vehicle currencies and the structure of international exchange”, Journal of Money, Credit and Banking, 12,513–526.
Nyunt, Khin Maung, 2010, “Ways to Promote Trade Settlement Denominated in Local Currencies in East Asia: Case Study of Thailand”, In “Ways to Promote Trade Settlement Denominated in Local Currencies in East Asia: Case Studies of Thailand, Singapore, EU and NAFTA”, The ASEAN Secretariat, Jakarta.


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