Exchange rate volatility and domestic investment in G7: are the effects asymmetric?
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Exchange rate volatility and domestic investment in G7: are the effects asymmetric? Mohsen Bahmani‑Oskooee1 · Jungho Baek2
© Springer Science+Business Media, LLC, part of Springer Nature 2020
Abstract One strand of the literature in exchange rate economics argues and demonstrates that exchange rate uncertainty could affect domestic investment in either direction. In this paper, we argue and demonstrate that the effects of exchange rate volatility on domestic investment could be asymmetric, meaning that increased uncertainty may have different effect in size or direction than decreased uncertainty. We use data from each of the G7 countries and how those effects are asymmetric in the short run in almost all seven countries. However, short-run asymmetric effects translate into the long-run only in Germany and the U.S. While in the U.S., long-run effects are asymmetric, in Germany they are not. Keywords Domestic investment · Exchange rate volatility · Asymmetry effects · G7 · Nonlinear ARDL JEL Classification F31
1 Introduction Exchange rate changes are said to affect every sector of an economy as well as every macro variable such as inflation, exports, imports, trade balance, the demand for money, income distribution, consumption, etc. and its impact on Valuable comments of two anonymous referees are greatly appreciated. Any remaining error, however, is our own. * Mohsen Bahmani‑Oskooee [email protected] Jungho Baek [email protected] 1
The Center for Research on International Economics and The Department of Economics, The University of Wisconsin-Milwaukee, Milwaukee, WI 53201, USA
2
Department of Economics, School of Management, University of Alaska Fairbanks, Fairbanks, USA
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Empirica
domestic investment is no exception. A depreciation could either hurt or boost domestic investment. Since it raises the cost of imported inputs, a depreciation could hurt the profit margin of produces and eventually the investment. On the other hand, since depreciation is expected to boost exports, through the multiplier effect it could lead to an improvement in the economy and investment. The ultimate impact is an empirical question and the literature is rather mixed. While Forbes (2002), Campa and Goldberg (1995, 1999), and Harchaoui et al. (2005) find depreciations to hurt domestic investment, Nucci and Pozzolo (2001), Landon and Smith (2009), Bahmani-Oskooee and Hajilee (2010), and Berg et al. (2015) find depreciations to boost it. Bahmani-Oskooee et al. (2018) who reviewed these studies in detail expanded the literature by demonstrating that the response of domestic investment to exchange rate changes could be asymmetric. Bahmani-Oskooee and Gelan (2019) added evidence from Africa. Another strand of the literature argues that if exchange rate changes could affect domestic investment, any uncertainty introduced by these changes could also affect investment. These studies argue that exchange rate volatility results in price volatility which could affect firms’ decisions to invest more or less, dep
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