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Global Firms in Large Devaluations

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Joaquin Blaum discusses the consequences of firms’ joint import and export decisions in the context of large devaluations.

Image courtesy of interviewee. May 9, 2024

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This video video discusses the implications of currency devaluations in international macroeconomics, particularly focusing on how economies adjust their import and export behaviors. The central premise is that during a devaluation, as foreign goods become relatively more expensive, countries tend to increase their overall import intensity, meaning they spend a larger share of their import expenditure on foreign inputs, despite the relative quantities of those inputs declining.

The author presents a study that examines 43 significant devaluations between 1970 and 2011, primarily observing that a 1% devaluation correlates with a 0.65% decrease in the relative quantity of foreign inputs but an increase in the aggregate import share. This video video phenomenon is attributed to the characteristic of firms that import and export simultaneously, revealing a robust correlation between these activities at the firm level.

The study argues that traditional trade models, which assume a quick decrease in the aggregate import share following a price increase for foreign inputs, do not accurately reflect real-world data. Instead, it posits a new model accounting for firms that are both importers and exporters, highlighting that devaluation can lead to an expansion in import-intensive firms.

Importantly, the findings suggest that while the aggregate import share may rise, the quantities of foreign inputs do not rise enough to offset their increased prices. This video video leads to a nuanced understanding of trade behavior post-devaluation, which is further illustrated through the experiences of Mexico and Indonesia.

Additionally, the findings indicate that the presence of global firms—those that are engaged in both importing and exporting—shapes responses in aggregate trade flow and can result in a more limited improvement in a country’s trade balance after a devaluation compared to traditional models without global firms. This video video complexity suggests that the global behavior of firms is critical to comprehending trade dynamics in the context of currency valuation changes.

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X-TIMESTAMP-MAP:LOCAL=00:00:00.000,MPEGTS=900000

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One of the central and perhaps oldest questions in

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international macroeconomics relates to the consequences

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of currency devaluations, in particular, understanding

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how economies substitute between foreign

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and domestic goods during the valuations is the subject

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of a vast literature

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and has implications for many outcomes of interest, such

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as the response of aggregate trade flows that is exports

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and imports their difference.

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Um, that is the trade balance which matters

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for the country's national, you know, aggregate savings

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as well as domestic production costs, prices,

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productivity, et cetera.

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Now, at the same time, in recent decades,

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the world has seen a dramatic change in the nature

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of international trade, with the rise

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of global value chains

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and the fragmentation of production across countries so

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that the majority of the goods

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that are traded about two thirds in value are not final

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goods, but actually unfinished, goods.

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Uh, that is intermediate inputs that cross multiple,

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international borders

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until richer consumers somewhere, somewhere in the globe.

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Now, it turns out that this increased participation

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of countries in global trade, as importers

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and exporter actually hold at the firm level

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with the very same firms that rely on imported inputs

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to produce also exporting, their products.

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Now, this firm level correlation between importing

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and exporting is one of the, most robust features

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of modern international trade data.

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And so my study basically revisits the classic question

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of the consequences of the valuations with a focus on,

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the pattern of substitution,

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taking into account this new nature of international trade,

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namely, the, you know,

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firm's global participation in international trade as both,

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importers and exporters.

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The key empirical finding of my study is that

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during the valuations,

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as foreign goods become more expensive relative

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to domestic ones, the economy's overall import

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intensity rises.

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That is the expenditure in foreign inputs as a share

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of total import expenditure of the country goes up.

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I established this fact using a sample

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of 43 large devaluations that took place between 1970

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and 2011 2011.

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That includes the well-known effects, e events,

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of Argentina, 2002, the East Asian countries of,

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97, 98, et cetera.

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Now, in these devaluations, on average,

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the real exchange rate basically plummets.

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It depreciates by about 25% on impact

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and remains persistently depreciated for several years, even

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after, after eight years, it is still 15% below

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its pre-evaluation level, so large

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and highly persistent events.

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At the same time, the aggregate imported input share

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increases by about 20%

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and remains 15% above its pre devaluation level,

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again, after eight years.

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And in a battery of robustness checks, I show

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that the rise in the aggregate import chair is not

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driven by shocks

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Commonly associated to the valuations such

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as financial crisis, recessions,

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and, you know, many other confounders.

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Now, does this rise in the aggregated import share mean

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that the quantities of foreign inputs, increase relative

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to the quantities of domestic inputs?

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No. The relative quantities

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of foreign inputs fall consistent

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with downward lobbying demand, relative demand curve, which

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what we, which is what we all learn in, equal 1 0 1,

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but they do not fall by enough

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to offset the rise in the relative import prices making

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this import share go up.

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More specifically, I find that a 1% devaluation

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of the real exchange rate is associated with a point 65%

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decrease in relative import quantities.

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This means that the elegant elasticity

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of substitution at the country level between domestic

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and foreign inputs, known in the literature

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as the arming on elasticity, is actually lower than unity.

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Uh, and why do I care?

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Well, in modern quantitative trade models,

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that are widely used in, in, in, you know, for policy making

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and so on, they typically assume values for this elasticity

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that are much larger and in particular, larger than one.

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So they would imply a decrease

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in the aggregate import share.

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So it's in sharp, in star contrast.

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So my study also shows that this finding is linked

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to firm level patterns, in particular to the prevalence

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of imported exporter firms.

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So using micro data for Mexico in 1995,

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and for Indonesia in 1998, I showed

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that these devaluations are characterized by an expansion

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of import intent in firms That is firms that

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before the devaluation spent a high fraction of their,

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you know, total budget for inputs in, in imported inputs,

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they actually gain market share.

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And it is this pattern of reallocation

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that quantitatively explains the increase in

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the import share.

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Now, why would intense importers,

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grow their market shares when the price of the, you know,

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inputs they rely on so much,

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those are the foreign inputs goes up?

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Well, I show that the answer is related

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to the exporting activities of these importers.

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After the valuations, exporters strongly, grow, right?

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They gain market share. And these exporters actually are,

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you know, highly, importing intensive firms.

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As mentioned earlier, existing,

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quantitative models typically feature values

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of the armington elasticity that are greater than one,

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which are based on empirical studies

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that exploit low frequency

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or rather permanent variation in prices.

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For example, estimates of the trade elasticity

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based on variation in tariffs, taxes to imports

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or prices typically range between two

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and 10 approaches based on high frequency,

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higher frequency variation.

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Time series variation in contrast often yield low estimates

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of the arm elasticity, say at quarterly frequency.

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However, the valuations I study feature large

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and persistent changes in creative prices.

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So they don't really speak to that.

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Um, time series variation,

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high frequency time series variation.

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In terms of theory,

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perhaps it's not surprising given the

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Importance of input trade in world trade.

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There is a recent literature that developed models

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of input trade, with firm heterogeneity,

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but it has typically abstracted from the firm level

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correlation between importing and exporting.

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So they typically don't have exports, actually.

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Uh, so this includes my own previous work with clearly large

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and micro peters, as well as other papers.

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Now, these frameworks are firm level importing,

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predict a decrease in the aggregate import share when the,

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price of foreign inputs increases, which as,

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as it should be clear now, it's, you know, the opposite of

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what my empirical findings are in this study.

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So why do these,

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previous models predict high substitution

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between domestic and foreign inputs?

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Uh, in other words that the relative

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import quantities fall by a lot.

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The main reason, if these bullets predict

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a sharp contraction of intense importers,

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which are more exposed to the increase in the relative

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price of foreign inputs.

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And, but I've shown in the Mexican

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and Indonesian cases that this pattern of relocation

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of these models is at odds, with the,

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with the experience of Mexico and Indonesia,

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where actually intensive importers grow, they don't contract

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to account for the rise in the import intensity

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and the expansion of import intensive firms observed

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after the valuations, I proposed a theory

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where firms can participate in international markets, both

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as importers and exporters.

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The model essentially bridges existing models

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of input trade, which typically abstract, from exporting

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with a canonical model of firm level exporting.

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Namely the famous Malitz model.

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Importing is a mechanism to reduce production costs

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as imported inputs are complementary with domestic inputs

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and may feature lower prices or higher quality.

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Now, importing,

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however, is limited by fixed costs,

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which accrue per country the firm imports from, so

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that larger firms,

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because of these fixed costs import from more countries and

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therefore will end up being more importing.

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Tennessee exporting on the other hand, is a mechanism

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to increase the firm's revenue sales, and

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therefore ends up increasing the returns

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to importing a given reduction in the unit.

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Cost from importing associated

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with importing is gonna be more profitable if it can be

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applied to more units, as is the case with exporters

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that are large and sell a lot.

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This induces a positive association naturally in the model

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between firm size, import orientation

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and export orientation.

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Now, a devaluation,

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brings about two effects in the model.

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First, as the price of foreign inputs increases,

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firm substitute their expenditure, you know,

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from imported towards domestic inputs.

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And so there is an increasing in cost,

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but it's gonna be more pronounced for the firms

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that are more important intensive,

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which makes them contract.

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Second, there is an increase in foreign demand

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as domestic prices and,

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measured in tradables the US dollars, basically,

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false, that makes exporting more profitable.

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This effect is gonna be more beneficial

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for intense exporters,

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which are somehow efficient exporters.

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Think of firms that have a low fixes

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of exporting per country, in the model.

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Now, the overall effect

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of the devaluation depends on the

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balance between these two forces.

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The first, the substitution effect that I first mentioned

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and the scale effect I later mentioned in the study.

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I show that the strength of these two effects can be trace

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back to, two simple objects.

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You can actually measure, the pre-evaluation, import

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share, and the export share so

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that these two firm level objects fully summarize all

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relevant information about the effects of a devaluation.

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Now, can the devaluation lead to the expansion

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of import intensive firms

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and an increase in the I import share that, that we do,

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that I documented in the data in the study?

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Yes, as long as the scale effects from exporting are strong

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enough, are strong, and there is enough correlation

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between importing and exporting,

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but ultimately it's gonna be a quantitative matter.

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It will depend on the entire distribution, of,

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firm size and import and export orientation model parameters

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and the full structure of the model,

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which is why I consider a quantitative exercise in an

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application to the Mexican devaluation of 1995, I showed

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that the model can quantitatively come to terms,

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with the patterns, of the data.

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So I choose model parameters.

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That is, I calibrate the model so

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that it replicates the distribution of firm, size

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and firm level import

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and export orientations, in the cross section

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before, the evaluation.

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So technically this, this requires

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that firms are heterogeneous in at least three dimensions,

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namely their efficiency, how good they are producing,

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as well as the fixes of importing

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and exporting, which control the firm's comparative

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advantage in importing and exporting.

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And you can have all kinds

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of cross correlation between these three things.

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Uh, that's how it works. Uh, so crucially,

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the model will replicate the strong positive association

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between import and export intensities in the data.

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That's kind of the robust feature of the,

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international trade data I mentioned earlier.

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So in a counterfactual devaluation

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that mimics the decline in the price of domestic inputs

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and wages, measuring tradables.

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Then in Mexico, the model predicts an increase in the area

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imported input share.

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That's good. That's what I had, in, in, in the,

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in the main, empirical findings.

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Now, at the same time, the model predicts a widespread

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reduction in firm level import share.

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Like the entire distribution

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of firm level import shares is kind

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of the marginal distribution shifts to the left in a way.

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So how, how does the aggregated import share go up?

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Well, because firm size

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and import intensity become more correlated

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as ex andante intense importers gain market share.

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And in turn, this relocation is linked to the expansion

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of ex andante intense exporters, which tend

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to be intense importers.

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Now, if instead we consider a standard model of importing,

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which abstracts from exporting

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or a version of the model of this, study,

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where firms can either import or export,

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but not both at the same time.

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These models,

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these alternative models will predict a sharp reduction in

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the aggregating import share,

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and they will feature this stark pattern of relocation

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by which intense importers sharply contract. Um, this means

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That the presence of global firms, that these firms

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that both import and export is crucial

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to reproduce the absurd pattern of substitution

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and reallocation, that we see in, the valuations.

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So what are the implications of firms, global behavior?

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Uh, I think there are many, but in the study I focus on too,

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the response of aggregate trade flows

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and of the trade deficit.

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So the presence of global firms matters for the response

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of exports and aggregate exports, in particular,

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because the changes in the sourcing strategies like take,

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of, from how many countries firms are importing,

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of exporters, they're gonna map into changes in the

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production cost of exporters, which could lead to larger

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or smaller reaction of their exports.

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It's gonna depend on,

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on whether the exporters become more important intensive

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or less important intensive, and anything can happen.

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Now, in the Mexican application that I,

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that I do in the study, I actually find

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that extending intense exporters,

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they actually end up increasing their import intensity

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fueled by the scale effects,

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which dominate the substitution, leading

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to a larger response of aggregate export exports compared

12:58.325 --> 12:59.965
to a model, without global firms.

13:00.725 --> 13:01.785
But what about imports?

13:02.325 --> 13:03.905
The adjustment of total imports

13:04.045 --> 13:07.105
to the valuation is radically different between a model

13:07.225 --> 13:09.105
with global firms and without.

13:10.195 --> 13:12.175
As global firms grow in size

13:12.195 --> 13:14.975
and import intensity, they demand greater quantities

13:14.975 --> 13:15.975
of imported inputs,

13:15.975 --> 13:18.575
and that leads to actually an increase in the levels of,

13:18.635 --> 13:20.095
in imports of inputs.

13:20.115 --> 13:21.215
So we have a devaluation

13:21.215 --> 13:22.575
that makes imported inputs more expensive,

13:22.575 --> 13:23.655
and the actual, not the relative,

13:23.655 --> 13:26.895
but the actual level of, of, of imports,

13:26.895 --> 13:28.015
of inputs goes up.

13:28.435 --> 13:30.735
And that's in stark contrast with the standard models.

13:30.735 --> 13:32.055
Without global firms that are gonna,

13:32.055 --> 13:35.215
they're gonna predict a decrease in total imports.

13:35.435 --> 13:38.215
Now, this higher growth of imports positive,

13:38.215 --> 13:41.495
but actually higher, with global firms is so strong

13:41.725 --> 13:45.335
that it more than upsets the larger growth in exports

13:45.335 --> 13:48.255
and leads to a lower reduction in the trade deficit visit.

13:48.725 --> 13:51.375
That is a lower improvement in the trade balance.

13:51.805 --> 13:54.215
What does this mean? It means that the presence

13:54.215 --> 13:56.975
of global firms reduces the country's ability

13:57.075 --> 13:59.575
to improve its external position,

13:59.575 --> 14:01.215
through a currency devaluation.

Impact of Currency Devaluation on Trade Dynamics

00:00:00 - One of the central and perhaps oldest questions in international macroeconomics relates to the consequences of currency devaluations, in particular, understanding how economies substitute between foreign and domestic goods during the valuations is the subject of a vast literature and has implications for many outcomes of interest, such as the response of aggregate trade flows that is exports and imports their difference. that is the trade balance which matters for the country's national, you know, aggregate savings as well as domestic production costs, prices,
00:00:33 - Now, at the same time, in recent decades, the world has seen a dramatic change in the nature of international trade, with the rise of global value chains and the fragmentation of production across countries so that the majority of the goods that are traded about two thirds in value are not final goods, but actually unfinished, goods. that is intermediate inputs that cross multiple, international borders until richer consumers somewhere, somewhere in the globe. Now, it turns out that this increased participation
00:01:06 - and exporter actually hold at the firm level with the very same firms that rely on imported inputs to produce also exporting, their products. Now, this firm level correlation between importing and exporting is one of the, most robust features of modern international trade data. And so my study basically revisits the classic question of the consequences of the valuations with a focus on, the pattern of substitution,
00:01:37 - namely, the, you know, firm's global participation in international trade as both, importers and exporters. The key empirical finding of my study is that during the valuations, as foreign goods become more expensive relative to domestic ones, the economy's overall import intensity rises. That is the expenditure in foreign inputs as a share of total import expenditure of the country goes up.
00:02:07 - of 43 large devaluations that took place between 1970 and 2011 2011. That includes the well-known effects, e events, of Argentina, 2002, the East Asian countries of, 97, 98, et cetera. Now, in these devaluations, on average, the real exchange rate basically plummets. It depreciates by about 25% on impact and remains persistently depreciated for several years, even after, after eight years, it is still 15% below
00:02:39 - and highly persistent events. At the same time, the aggregate imported input share increases by about 20% and remains 15% above its pre devaluation level, again, after eight years. And in a battery of robustness checks, I show that the rise in the aggregate import chair is not driven by shocks Commonly associated to the valuations such as financial crisis, recessions, and, you know, many other confounders. Now, does this rise in the aggregated import share mean

Impact of Currency Devaluation on Import Shares

00:03:12 - to the quantities of domestic inputs? No. The relative quantities of foreign inputs fall consistent with downward lobbying demand, relative demand curve, which what we, which is what we all learn in, equal 1 0 1, but they do not fall by enough to offset the rise in the relative import prices making this import share go up. More specifically, I find that a 1% devaluation of the real exchange rate is associated with a point 65%
00:03:40 - This means that the elegant elasticity of substitution at the country level between domestic and foreign inputs, known in the literature as the arming on elasticity, is actually lower than unity. and why do I care? Well, in modern quantitative trade models, that are widely used in, in, in, you know, for policy making and so on, they typically assume values for this elasticity that are much larger and in particular, larger than one. So they would imply a decrease in the aggregate import share. So it's in sharp, in star contrast.
00:04:13 - to firm level patterns, in particular to the prevalence of imported exporter firms. So using micro data for Mexico in 1995, and for Indonesia in 1998, I showed that these devaluations are characterized by an expansion of import intent in firms That is firms that before the devaluation spent a high fraction of their, you know, total budget for inputs in, in imported inputs, they actually gain market share. And it is this pattern of reallocation
00:04:43 - the import share. Now, why would intense importers, grow their market shares when the price of the, you know, inputs they rely on so much, those are the foreign inputs goes up? Well, I show that the answer is related to the exporting activities of these importers. After the valuations, exporters strongly, grow, right? They gain market share. And these exporters actually are, you know, highly, importing intensive firms. As mentioned earlier, existing,
00:05:14 - of the armington elasticity that are greater than one, which are based on empirical studies that exploit low frequency or rather permanent variation in prices. For example, estimates of the trade elasticity based on variation in tariffs, taxes to imports or prices typically range between two and 10 approaches based on high frequency, higher frequency variation. Time series variation in contrast often yield low estimates of the arm elasticity, say at quarterly frequency.
00:05:46 - and persistent changes in creative prices. So they don't really speak to that. time series variation, high frequency time series variation. In terms of theory, perhaps it's not surprising given the Importance of input trade in world trade. There is a recent literature that developed models of input trade, with firm heterogeneity, but it has typically abstracted from the firm level correlation between importing and exporting. So they typically don't have exports, actually. so this includes my own previous work with clearly large and micro peters, as well as other papers.

Rethinking Import-Export Dynamics Post-Devaluation

00:06:17 - predict a decrease in the aggregate import share when the, price of foreign inputs increases, which as, as it should be clear now, it's, you know, the opposite of what my empirical findings are in this study. So why do these, previous models predict high substitution between domestic and foreign inputs? in other words that the relative import quantities fall by a lot. The main reason, if these bullets predict a sharp contraction of intense importers, which are more exposed to the increase in the relative
00:06:47 - And, but I've shown in the Mexican and Indonesian cases that this pattern of relocation of these models is at odds, with the, with the experience of Mexico and Indonesia, where actually intensive importers grow, they don't contract to account for the rise in the import intensity and the expansion of import intensive firms observed after the valuations, I proposed a theory where firms can participate in international markets, both as importers and exporters. The model essentially bridges existing models of input trade, which typically abstract, from exporting
00:07:20 - Namely the famous Malitz model. Importing is a mechanism to reduce production costs as imported inputs are complementary with domestic inputs and may feature lower prices or higher quality. Now, importing, however, is limited by fixed costs, which accrue per country the firm imports from, so that larger firms, because of these fixed costs import from more countries and therefore will end up being more importing. Tennessee exporting on the other hand, is a mechanism
00:07:50 - therefore ends up increasing the returns to importing a given reduction in the unit. Cost from importing associated with importing is gonna be more profitable if it can be applied to more units, as is the case with exporters that are large and sell a lot. This induces a positive association naturally in the model between firm size, import orientation and export orientation. Now, a devaluation, brings about two effects in the model. First, as the price of foreign inputs increases,
00:08:22 - from imported towards domestic inputs. And so there is an increasing in cost, but it's gonna be more pronounced for the firms that are more important intensive, which makes them contract. Second, there is an increase in foreign demand as domestic prices and, measured in tradables the US dollars, basically, false, that makes exporting more profitable. This effect is gonna be more beneficial for intense exporters, which are somehow efficient exporters. Think of firms that have a low fixes
00:08:53 - Now, the overall effect of the devaluation depends on the balance between these two forces. The first, the substitution effect that I first mentioned and the scale effect I later mentioned in the study. I show that the strength of these two effects can be trace back to, two simple objects. You can actually measure, the pre-evaluation, import share, and the export share so that these two firm level objects fully summarize all relevant information about the effects of a devaluation. Now, can the devaluation lead to the expansion

Impact of Devaluation on Import-Export Dynamics

00:09:24 - and an increase in the I import share that, that we do, that I documented in the data in the study? Yes, as long as the scale effects from exporting are strong enough, are strong, and there is enough correlation between importing and exporting, but ultimately it's gonna be a quantitative matter. It will depend on the entire distribution, of, firm size and import and export orientation model parameters and the full structure of the model, which is why I consider a quantitative exercise in an application to the Mexican devaluation of 1995, I showed
00:09:56 - with the patterns, of the data. So I choose model parameters. That is, I calibrate the model so that it replicates the distribution of firm, size and firm level import and export orientations, in the cross section before, the evaluation. So technically this, this requires that firms are heterogeneous in at least three dimensions, namely their efficiency, how good they are producing, as well as the fixes of importing and exporting, which control the firm's comparative advantage in importing and exporting.
00:10:27 - of cross correlation between these three things. that's how it works. so crucially, the model will replicate the strong positive association between import and export intensities in the data. That's kind of the robust feature of the, international trade data I mentioned earlier. So in a counterfactual devaluation that mimics the decline in the price of domestic inputs and wages, measuring tradables. Then in Mexico, the model predicts an increase in the area imported input share. That's good. That's what I had, in, in, in the,
00:10:58 - Now, at the same time, the model predicts a widespread reduction in firm level import share. Like the entire distribution of firm level import shares is kind of the marginal distribution shifts to the left in a way. So how, how does the aggregated import share go up? Well, because firm size and import intensity become more correlated as ex andante intense importers gain market share. And in turn, this relocation is linked to the expansion of ex andante intense exporters, which tend to be intense importers.
00:11:30 - which abstracts from exporting or a version of the model of this, study, where firms can either import or export, but not both at the same time. These models, these alternative models will predict a sharp reduction in the aggregating import share, and they will feature this stark pattern of relocation by which intense importers sharply contract. this means That the presence of global firms, that these firms that both import and export is crucial
00:12:00 - and reallocation, that we see in, the valuations. So what are the implications of firms, global behavior? I think there are many, but in the study I focus on too, the response of aggregate trade flows and of the trade deficit. So the presence of global firms matters for the response of exports and aggregate exports, in particular, because the changes in the sourcing strategies like take, of, from how many countries firms are importing, of exporters, they're gonna map into changes in the

Global Firms and Currency Devaluation Effects

00:12:32 - or smaller reaction of their exports. It's gonna depend on, on whether the exporters become more important intensive or less important intensive, and anything can happen. Now, in the Mexican application that I, that I do in the study, I actually find that extending intense exporters, they actually end up increasing their import intensity fueled by the scale effects, which dominate the substitution, leading to a larger response of aggregate export exports compared to a model, without global firms.
00:13:02 - The adjustment of total imports to the valuation is radically different between a model with global firms and without. As global firms grow in size and import intensity, they demand greater quantities of imported inputs, and that leads to actually an increase in the levels of, in imports of inputs. So we have a devaluation that makes imported inputs more expensive, and the actual, not the relative, but the actual level of, of, of imports, of inputs goes up. And that's in stark contrast with the standard models.
00:13:59 - they're gonna predict a decrease in total imports. Now, this higher growth of imports positive, but actually higher, with global firms is so strong that it more than upsets the larger growth in exports and leads to a lower reduction in the trade deficit visit. That is a lower improvement in the trade balance. What does this mean? It means that the presence of global firms reduces the country's ability to improve its external position, through a currency devaluation.

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