Heterogeneous Effect of Exchange Rates on Firms’ Exports: Role of Labor Intensity

Transcription

1. Heterogeneous Effect of Exchange Rates on Firms ’ Exports: Role of Labor Intensity Kurmaş Akdoğan Yusuf Kenan Bağır Huzeyfe Torun July 2021 Working Paper No: 21/15
2. © Central Bank of the Republic of Turkey 2021 Address: Central Bank of the Republic of Turkey Head Office Structural Economic Research Department Hacı Bayram Mah. İstiklal Caddesi No: 10 Ulus, 06050 Ankara, Turkey Phone: +90 312 507 80 04 Facsimile: +90 312 507 78 96 The views expressed in this working paper are those of the author(s) and do not necessarily represent the official views of the Central Bank of the Republic of Turkey.
3. Heterogeneous Effect of Exchange Rates on Firms ’ Exports: Role of Labor Intensity Kurmaş Akdoğan1 Yusuf Kenan Bağır2 Huzeyfe Torun3,4 Abstract Using an extensive firm-level database that combines balance sheet information, social security registry and customs data, we examine whether the relationship between the exchange rate and exports change with the degree of labor-intensity of production. The results based on manufacturing firms in Turkey suggest that the sensitivity of labor-intensive firms to the exchange rate is higher than that of the less labor-intensive ones, both at the intensive and extensive margins of exports. However, we do not find a significant impact on the export prices varying across the labor-intensity of the firms. Our results are robust to alternative definitions of labor-intensity and exchange rates, and the use of different time spans. Keywords: Exports, Exchange Rates, Labor-intensity JEL Codes: F14, F16, D22 1 Structural Economics Research Department, Central Bank of the Republic of Turkey, Ulus, Ankara, 06100, Turkey. Phone: +903125078013. e-mail: kurmas.akdogan@tcmb.gov.tr. 2 Data Governance and Statistics Department, Central Bank of the Republic of Turkey, Ulus, Ankara, 06100, Turkey. Phone: +903125076900. e-mail: YusufKenan.Bagir@tcmb.gov.tr. 3 Structural Economics Research Department, Central Bank of the Republic of Turkey, Ulus, Ankara, 06100, Turkey. Phone: +9031250780. e-mail: huzeyfe.torun@tcmb.gov.tr. 4 The views and opinions presented in this study belong to the authors and do not necessarily represent those of the Central Bank of the Republic of Turkey.
4. Non-Technical Summary Does the depreciation of the domestic currency help boost exports ? This paper argues that this relationship depends to some extent on the labor-intensity of production for the Turkish manufacturing firms. In addition to the level of exports, the change in the export product variety and export market variety in case of a currency depreciation also depend on the degree of the labor-intensity of production. We argue that this heterogeneity could be a result of relatively lower adjustment cost of capacity expansions, uncertainty regarding the persistence of currency shocks or a low ratio of imported inputs in production for labor-intensive firms. An extensive firm-level data on the manufacturing sector in Turkey provided by the Ministry of Industry and Technology is exploited to examine the relationship between the exchange rate and exports along with varying degrees of labor-intensity of production. The empirical methodology is based on comparing the export performance of firms that are more labor-intensive to those that are less labor-intensive during the changes in the real effective exchange rate. Our results suggest that the export sensitivity of labor-intensive firms to changes in the exchange rate is higher than that of the less labor-intensive ones, both at the intensive and extensive margin. First, among exporting firms, a currency depreciation increases the exports of labor-intensive firms more than others. In particular, in case of a 10 percent decline in the real effective exchange rate, the increase in the exports of the labor-intensive firms is 2.7 percent higher than the increase in exports of the non-labor-intensive firms. Second, we find that currency depreciation leads higher number of new labor-intensive firms to enter into the export market than less intensive ones. Third, export product variety as well as export market variety of the labor-intensive firms increase more than others during a currency depreciation. Specifically, in case of a 10 percent decline in the real effective exchange rate, the increase in the number of product variety exported by a labor-intensive firm is 1.1 percent higher than the increase in the number of product variety exported by a non-labor-intensive firm. Lastly, our results do not indicate a significant impact on the export prices depending on the laborintensity of the firms. 2
5. I . Introduction Much of the recent literature on export-led growth of developing countries documents a positive impact of the undervalued exchange rates on the exports as well as on the economic growth.5 Nevertheless, the presumed positive effect of currency depreciation on growth could be constrained by the cyclical determinants and several characteristics inherent to the structure of the economy. The cyclical part is largely motivated by the impact of swings in capital flows on domestic demand.6 The structural side focuses on the mechanisms through which the exchange rate changes affect the production structure and the export behavior. Accordingly, the impact of exchange rate changes on exports through this latter channel depends on -among other characteristics- the method of production. Following the aforementioned line of thought, in this paper we investigate whether the labor-intensity of production has an influence on the relationship between exchange rates and exports. In particular, we ask whether the deprecation (appreciation) increases (decreases) the exports of labor-intensive firms more than the others. One explanation for the heterogeneous effect of exchange rate on exports of firms with varying labor intensity might be the adjustment cost of capacity expansions. After a currency depreciation, it is relatively easier to raise the number of employees or number of work hours compared to constructing new plants or installing additional machinery. Thus, labor-intensive firms may quickly adjust to the new trade environment and raise their supply. Second, related to the previous explanation, the heterogeneous effect may be related to the persistence of the currency shocks. Once there is a depreciation in the local currency, it is unknown to the firms whether the low level of REER is persistent or not. Thus, there is less incentive to expand the capacity through investment for capital-intensive firms, at least in the short run. Finally, a high ratio of labor cost to total sales also implies a relatively lower ratio of intermediate goods to total sales. The latter is correlated with lower intensity of imported inputs in the cost of sales and total sales. As the REER decreases and local currency depreciates, firms with lower share of imported inputs are more likely to benefit from the advantages of depreciation. To examine the relationship between the exchange rate and exports along with varying degrees of laborintensity of production, we exploit the extensive firm-level data on the manufacturing sector in Turkey provided by the Ministry of Industry and Technology. This comprehensive data set provides information on the number of employees and labor cost of the firms, all items on the balance sheet and income statement of legal and real entities that keep accounting records on a balance sheet basis, and the entire customs data at transaction level. The empirical methodology is based on comparing the export performance of firms that are more labor-intensive to those that are less labor-intensive during the 5 Among many others, see Eichengreen (2007), Rodrik (2008), Haddad and Pancaro (2010), Eichengreen and Gupta (2013), Korinek and Serven (2016) and Guzman et al. (2018) for alternative mechanisms through which an undervalued currency would boost exports and economic growth. 6 As the argument goes, the currency appreciation due to capital inflows might result in consumption-led growth booms whereas capital outflows would lead to a depreciating currency and relatively lower domestic demand. 3
6. changes in the real effective exchange rate . While doing this analysis, we assume that real effective exchange rate of the country is exogenous to firms’ individual characteristics, labor-intensity in particular. To support this conjecture, while constructing a firm’s labor-intensity, we take the average value of the sample period that is constant over time and less likely to be endogenous with the REER of a certain period. In addition to the export behavior at the intensive and extensive margin, the empirical analysis examines various outcomes such as product variety, market variety and export prices. Turkey provides a good case to investigate the interaction of exchange rates with labor-intensity of firms in a number of aspects. First, as a developing country with a relatively integrated economy to the global value chain, the export performance of firms is of interest to academics and policy makers. The outwardoriented policies of 1980s including import liberalization, export promotion and capital account liberalization; as well as the customs union agreement with EU in 1996 resulted in high export performance over the following decades. Exports show a fivefold increase from 2002 to 2018 in US dollar terms while their share in GDP oscillates between 20 and 30 percent during the same period (Figure 1). Figure 1: Total Exports and Exports to GDP Source: TURKSAT (Exports / Special Trade System) The empirical analysis reports weakened elasticity of exchange rate as well as increasing weight of foreign demand in determining Turkish exports over the course of two decades (Saygılı and Saygılı, 2011). Empirical evidence on the heterogeneous effect of exchange rates would contribute to the understanding of export performance of Turkey as a whole and inform the policy makers. Second, for this topic to be analyzed empirically, we need a significant level of variation across firms in terms of labor-intensity. As will be seen in the following sections, there is a strong variation in labor-intensity across industries, and across firms within the same industry in Turkey. Third, as a small open economy with floating exchange rate regime, the value of Turkish Lira against foreign currencies has been varying 4
7. significantly across years . There were also periods of relatively sharp currency depreciation in the past two decades. Together with the variation in labor-intensity, the variation in the exchange rate play a crucial role in identifying the role of labor-intensity in how exchange rates affect the exports. Our results suggest that the export sensitivity of labor-intensive firms to changes in the exchange rate is higher than that of the less labor-intensive ones, both at the intensive and extensive margin. First, among exporting firms, a currency depreciation increases the exports of labor-intensive firms more than others. In particular, in case of a 10 percent decline in the real effective exchange rate, the increase in the exports of the labor-intensive firms is 2.7 percent higher than the increase in exports of the non-labor-intensive firms. Second, we find that currency depreciation leads higher number of new labor-intensive firms to enter into the export market than less intensive ones. Finally, export product variety as well as export market variety of the labor-intensive firms increase more than others during a currency depreciation. Specifically, in case of a 10 percent decline in the real effective exchange rate, the increase in the number of product variety exported by a labor-intensive firm is 1.1 percent higher than the increase in the number of product variety exported by a non-labor-intensive firm. However, we cannot find a significant impact on the export prices depending on the labor-intensity of the firms. Our results are robust to alternative definitions of labor-intensity and exchange rates, and the use of different time spans. This study contributes to the literature in a number of ways. First, currency depreciations are associated with two competing effects for the export performance of developing countries. On the one hand, a weaker currency could create cost advantages for these countries through lower wages in various sectors including manufacturing. On the other hand, currency depreciation might be detrimental for the production due to increasing cost of imported intermediate goods. Hence, the overall impact could be positive or negative depending on the weight of alternative factors in the cost of production. From this standpoint, it is important to take cognizance of the cost structure at the firm level while measuring the impact of exchange rate on the export performance. To the best of our knowledge, this is the first study that analyzes the heterogeneous impact of exchange rate on export performance of firms with various levels of labor-intensity. Second, the previous literature documents that the labor-intensity of manufacturing exports increase in the developing countries in the last three decades. In addition, manufacturing exports increase demand for labor and wages in other sectors providing domestic inputs to the manufacturing sector (Cali et al, 2016). These backward linkages helping support jobs highlights the development of manufacturing sector as a key issue for many developing countries. Our study contributes to this literature documenting that the degree of labor-intensity matters for the correlation between exchange rates and export performance in the manufacturing sector for the developing countries. Third, labor content of exports is declining in high-income countries mostly due to labor saving technologies in production. However, the trend is flat in middle-income countries and further increasing 5
8. in low-income countries (Cali et al. 2016). Hence, as a country develops economically, the labor share of exports is expected to decline. The transition towards more capital-intensive production structures largely depends on the performance of incumbent exporters as well as a functioning export market allowing and further incentivizing new entries. Accordingly, it is important to study the impact of exchange rate changes on both intensive and extensive margins, in relation with other factors that determine the productivity of the firms. Our study confirms that the impact of a weaker domestic currency on exports at the extensive margin is higher for labor-intensive firms in the manufacturing sector. Fourth, the literature on aggregate exports in Turkey documents a strong relationship between foreign demand and exports, yet a weaker one between exchange rate and exports. This result is usually motivated with higher integration to global value chains and a high share of imported inputs in exports (Saygılı and Saygılı, 2011). However, the literature that focuses on alternative disaggregated structures reports different results. For example, the impact of changes in real exchange rate is higher in exports to developing countries (Çulha and Kalafatçılar, 2014) or for firms which has high level of foreign liabilities (Toraganlı and Yalçın, 2016). Our study suggests another classification according to the factor-intensity of production and shows that the impact of currency depreciation is more visible in the exports of labor-intensive firms. The rest of the paper is organized as the following. The next section briefly summarizes the recent literature. The third section introduces the method and the fourth one documents the data. The fifth section documents the results. The sixth section reports the results of robustness checks. The article concludes with a discussion of the policy implications in the sixth section. II. Literature Review Our paper draws upon several strands of literature. Firstly, our study is related to the broad literature on exchange rates, international trade and firm heterogeneity. Second, we summarize the empirical literature on labor-intensity of exports. Third, studies on the relationship between exchange rates and international trade are documented. Fourth, we focus on the literature on the role of labor costs in export performance of firms. Lastly, in relation with our case study, we present some studies on the connection between exchange rate and Turkish exports. In his seminal study, Dornbusch (1987) provides a theoretical model for the mark-up adjustment as well as endogenous entry-exit behavior of the firms against exchange rate changes. He argues that long-term adjustment against a real appreciation would manifest itself in wage cuts in industries in which losses in competitiveness lead to unemployment; and to wage increases in other expanding sectors. Accordingly, firms will exit industries with higher-wages and enter industries with lower wages. Moreover, while the relative price changes of exports and imports depends on the market power for the advanced country cases; the impact is largely proportionate for the small country case. 6
9. Melitz (2003) suggests an endogenous entry-exit structure depending on the productivity level of firms. In his model, higher productivity means producing a symmetric variety of a product with lower marginal cost. Firms face a sunk entry cost and they learn their productivity level after entry, followed by their export decision. The model suggests that firms with higher productivity export and increase their market share and profits. A second group of less efficient firms might still export and increase their market share but might face lower profits. When efficiency level goes down, the firm might remain in the industry but might leave the export market. Lastly, the least efficient firms exit the industry. Rodriguez-Lopez (2011) also utilizes such an endogenous firm entry-exits structure, allowing for endogenous mark-ups and heterogeneous productivity among firms. In his model, exchange rate movements has an impact on the extensive margin through changing the cut-off productivity levels. Among other factors, the change in the relative cost of labor due to a depreciation is a determinant of these cut-off productivity levels. The ultimate impact of the exchange rates shock depends on the strength of two reinforcing effects: The firm-specific effect related to the firm’s productivity level and the economy wide effect revealing the change in competitiveness. Berman et al. (2012) studies the impact of exchange rate movements on export volumes, considering firm-level heterogeneity. They find that increase in size and performance is associated with lower export sensitivity since these firms could absorb exchange rate movements in their mark-ups. The second strand of the literature that our analysis relates includes the empirical studies on the laborintensity of exports. In a recent comprehensive World Bank study, Cali et al. (2016) compiles the labor contents of exports (LACEX) database consisting of 124 countries. They first show that the global decline in labor-intensity of exports since 1995 is mostly driven by high-income countries whereas the labor value added is relatively flat in middle-income countries, and increasing in low-income countries. Second, the skill composition of exports reveals higher share for low-skilled labor in developing countries compared to the high-income ones. Third, the labor value added in the exports of the service sector is relatively higher compared to other sectors. However, the labor-intensity of the manufacturing exports rises significantly in developing countries over time, mostly due to increasing labor demand in input providing sectors. Lastly, the paper shows that, while the job intensity of exports (how many new jobs are created by a certain value of exports) decreases with the country’s income per capita, the opposite case holds for the wage intensity of exports (labor value added share in exports). They argue that when the countries develop economically, the average wage increase could compensate for the decline in job losses per unit of exports. However, there are exceptions to rising share of labor valueadded in exports among the developing countries such as South Africa (Cali and Holweg, 2017) and China (Kee and Tang, 2016). Thirdly, the stability of the relationship between exchange rates and international trade is also the subject of an ongoing debate in the literature. On the one hand, one strand of the literature argues that 7
10. exchange-rate pass through has been reduced due to increasing participation in global value chains (Ollivaud et al., 2015; Ahmed et al., 2016). On the other hand, conducting a cross-country exercise, Leigh et al. (2017) shows that both exchange rate pass through and price elasticity of trade is stable over time. They show that ten percent devaluation would lead to an increase in real exports around 1.5 percent of GDP. Second, most of this response is observed in a year. Another factor that plays an important role in the relationship between exports and exchange rates is the intensity of imported intermediate inputs in production. Depreciation of the domestic currency would lower the price of domestically produced goods but would increase the cost of imported inputs. Hence, the net impact of exchange rate changes depends on the intensity of imported inputs. Conducting an empirical exercise for UK manufacturing firms, Greenaway (2010) shows that these two effects offset each other and exchange rate has no effect on imports.7 Another strand of the literature focuses on the role of labor costs in exporters performance. Decramer et al. (2016) examines the impact of changes in unit labor costs on Belgium exports, using firm-level data. They suggest that for the average exporting firm, a 1 per cent increase in unit labor costs reduces exports around 0.3 percent. Moreover, the sensitivity of labor-intensive firms to change in unit labor costs are much higher than the capital-intensive ones. They also report that the impact of changes in unit labor costs are higher for the extensive margin. In a similar firm-level study, Gan et al. (2016) shows that increase in minimum wage in China is associated with declines in probability of exporting goods as well as volume of export sales. Malgouyres and Mayer (2018) examine the role of labor costs in exporters performance studying the impact of a tax credit policy aiming to increase competitiveness through lower labor costs and conclude that the causal effects of the policy are hardly significant. The last part of our literature review focuses on studies investigating the relationship between the exchange rate and Turkish exports. A number of studies using aggregated data document that the real exchange rate changes has relatively lower impact on exports, while foreign demand is the key determinant of Turkish exports (Saygılı and Saygılı, 2020; Çelgin et al., 2019). However, studies focusing on alternative disaggregated structures report different results. For example, Çulha and Kalafatçılar (2014) suggests that exports to developed countries is more responsive to foreign demand while exports to developing countries are affected by the changes in the real exchange rate. Toraganlı and Yalçın (2016) shows that the sensitivity of the exports to exchange rates is higher for the firms with higher foreign exchange denominated debt to exports and lower for the firms in sectors that use high level of imported inputs. Conducting a firm-level study on Turkish manufacturing firms for 2007-2014 Akhan et al. (2018) show that the depreciation results in higher increase in export volumes of the 7 Another sub-strand of the literature on the relationship between exchange rates and international trade focuses on the impact of exchange rate uncertainty on the trade flows among countries. For examples of a group of countries see Baum et al. (2004) and Bahmani-Oskooee and Kovyryalova (2008). For studies on Turkey see Vergil (2002), Kasman and Kasman (2005, Solakoğlu et al. (2008) and Alper (2017). 8
11. productive firms than those of the lower productive ones. Our study contributes to this literature, investigating another breakdown depending on the production structure. We argue that the impact of a currency depreciation is higher for firms with a labor-intensive production structure. III. Empirical Methodology In this part, we first describe the empirical methodology and then the data used in the study. The empirical methodology is based on comparing the export performance of firms that are more laborintensive to those that are less labor-intensive during a change in the real effective exchange rate. The primary question is how the labor-intensity of the firms affects their response to a change in the value of a currency. Our identification strategy relies on the assumption that real effective exchange rate of the country is exogenous to firms’ individual characteristics, labor-intensity in particular. To strengthen this conjecture, measuring a firm’s labor-intensity, we take the average value of the sample period following Amiti, Itskhoki, and Konnings (2014), which is less likely to be endogenous with the REER of a certain period.8 Thus, we have a single value of labor-intensity for each firm, constant over time. This acts as an embedded firm characteristic in our empirical estimation since the production structure of a firm is a sunk cost and we do not expect it to be significantly affected by the cyclical exchange rate movements given the time horizons we use in our regressions. We later run a robustness check with a shorter time period. We proxy for a firm’s labor-intensity using a measure similar to the unit labor cost that is defined as follows: