The Exchange Rate Adjustment Role in Imperfect Competition: the Case of the Czech Republic

Filip Novotný

ACTA VSFS, 2008, vol. 2, issue 1, 38-55

Abstract: One of the approaches to an international trade analysis is the assumption of prevailing imperfect competition where monopolistic firms determine prices of their production on segmented foreign markets. Based on aggregate data of quarterly financial indicators of non-financial enterprises, the hypothesis was tested whether producers based in the Czech Republic absorb nominal exchange rate fluctuations in their profit margins. Estimated results indicate that domestic private firms absorb a substantial part of exchange rate fluctuations whereas the impact on firms under foreign control is ambiguous which implies application of optimization strategies in the case of multinational companies. These strategies are associated with pricing of intrafirm transactions. Tax optimization of multinational companies causes the dependence of the profitability of firms under foreign control on the level of effective taxation in EU countries. Both local-currency-pricing strategy (domestic private firms) and optimization strategies of multinational companies (firms under foreign control) lead to weakening of the exchange rate adjustment mechanism. In the case of small open economies, arguments in favor of a flexible exchange rate regime are therefore weakening with increasing globalization and imperfect competition in international trade.

Keywords: exchange rate; foreign market; imperfect competition; multinational company; pricingto- market; profit margin (search for similar items in EconPapers)
JEL-codes: F12 F23 F41 L11 (search for similar items in EconPapers)
Date: 2008
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