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Corporate investment and the exchange rate: The financial channel

Ryan Banerjee, Boris Hofmann () and Aaron Mehrotra

No 839, BIS Working Papers from Bank for International Settlements

Abstract: Using firm-level data for 18 major global economies, we find that the exchange rate affects corporate investment through a financial channel: exchange rate depreciation dampens corporate investment through firm leverage and FX debt. These findings are consistent with the predictions of a stylised model of credit risk in which exchange rates can affect investment through FX debt or borrowing in local currency from foreign lenders. Empirically, the channel is more pronounced in emerging market economies (EMEs), reflecting their greater dependence on foreign funding and their less developed financial systems. Moreover, we find that exchange rate depreciation induces highly leveraged firms to increase their cash holdings, supporting from a different angle the notion of a financial channel of the exchange rate. Overall, these findings suggest that the large depreciation of EME currencies since 2011 was probably a significant amplifying factor in the recent investment slowdown in these economies.

Keywords: corporate investment; emerging markets; exchange rates; financial channel; financial constraints (search for similar items in EconPapers)
JEL-codes: E22 F31 F41 O16 (search for similar items in EconPapers)
Pages: 34 pages
Date: 2020-02
New Economics Papers: this item is included in nep-cfn, nep-ifn, nep-mac and nep-opm
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