The impact of exchange rate on import and export trade
September 19, 2022

Economic common sense tells us that the appreciation of domestic currency means the depreciation of other countries' currencies. In export trade, the importing country of the same goods needs to take out more domestic currency, so the importing country may turn to other countries' commodities, which is not conducive to its own export. The depreciation of the domestic currency means that the currency of the other country appreciates, and the import of the same goods requires more domestic currency, which is not conducive to the export of the other country.


1. Changes in exchange rates cause changes in income, thus affecting import and export trade.


The most direct manifestation of exchange rate change is the appreciation or depreciation of domestic currency. Currency appreciation will cause the price of imported goods to fall, while the price of export goods to rise, although not conducive to export, but can improve the balance of payments, currency depreciation can achieve the opposite effect.


However, in fact, the impact of currency depreciation on income mainly comes from two aspects: currency depreciation will cause the price of imported goods to rise, the price of export goods to fall, thus worsening the terms of trade. At the same time, with the same nominal income level, consumers can only buy less goods, which leads to a decrease in real income, which inevitably leads to a decrease in the country's expenditure, thus improving the trade balance. In addition, if there are underutilized resources in the country, devaluation can stimulate domestic and foreign residents' demand for the product. According to the principle of Keynesian economics, people's economic expenditure will increase national income several times through the Keynesian multiplier, and the increase of national income will increase domestic expenditure, thus achieving a virtuous circle.


According to the principle of the red price, people's economic spending will increase national income several times through the Keynesian multiplier, and the increase of national income will increase domestic spending, achieving a virtuous circle.


2. Exchange rate fluctuations cause price pass-through, thus affecting import and export trade.

As mentioned above, the most direct manifestation of exchange rate change is the rise or fall in the relative price of currency, which is first reflected in import and export trade. However, in today's financial globalization, price changes in the international market will eventually affect the general price in the domestic market. Therefore, the change of exchange rate will cause the general domestic price level, thus affecting the trade volume of importers and exporters and the country's trade balance, which can be reflected in the following two aspects:


First, currency appreciation is a fall in the price of imported goods expressed in the local currency, such as raw materials or semi-finished goods, which is then passed through the price, affecting the fall in the cost of final goods and the fall in prices.


Second, exchange rate changes will lead to changes in the trade balance. For example, after currency depreciation, trade balance surplus will appear, which will lead to the increase of foreign exchange reserves, and the increase of foreign exchange reserves will make the central bank have to purchase foreign exchange to release more base money in the domestic market. Obviously, more base money leads to inflation. The continuous growth of China's foreign exchange reserves in the past two years is not the result of the depreciation of RMB, but the large amount of foreign exchange reserves and the changes in the international economy have made China's inflation rate remain high. When inflation occurs, it actually encourages people to spend, because when nominal money is unchanged, the public is more willing to convert money into tangible assets, which will objectively push up prices.


3. The impact of exchange rate on import and export trade is also related to the nature of the commodity itself.


Generally speaking, the decline of the exchange rate of the domestic currency, that is, the depreciation of the foreign currency's value, can play a role in promoting exports and inhibiting imports.

If the exchange rate of the domestic currency rises, that is, the external value of the domestic currency rises, it will be conducive to imports and not conducive to exports.


Of course, the possible impact of exchange rate changes on imports and exports must be accompanied by a condition that the demand for imports and exports is price elastic, and the price changes of imports and exports will have an impact on the demand for imports and exports. If the import and export demand is sensitive to the changes of exchange rate and commodity prices, that is, the elasticity of demand is large, then the decline of the exchange rate of a country and the corresponding reduction of the price of export commodities can effectively stimulate the quantity of export. As the domestic price of imported goods rises, the demand for imported goods can be effectively suppressed and the quantity of imported goods can be reduced. It is generally believed that if the sum of the elasticity of demand for export goods and the elasticity of demand for import goods is greater than 1, then the decline of exchange rate can improve the trade balance of a country.

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