Exchange Rates and Production Networks in Asia: A Twenty-first Century Perspective

ABSTRACT

China's surplus in processing trade, correctly measured, approaches half a trillion dollars year after year. Processed exports are final goods produced using parts and components imported from East Asia. Cointegration evidence indicates that processed exports depend, not only on the renminbi exchange rate, but also on exchange rates in East Asian supply chain countries. Results from out-of-sample forecasts indicate that exchange rates in supply chain countries remain important for explaining processed exports over the 2013–2015 period even as China's value-added has increased. While the renminbi has appreciated by 50% between 2005 and 2015, exchange rates in South Korea, Taiwan, and Japan have depreciated or stayed the same during this period, despite large current account surpluses. In order to switch expenditures away from China's processed exports and rebalance trade, it is necessary for exchange rates in Asian supply chain countries to also appreciate.

KEY WORDS:

• Global value chains
• exchange rate elasticities
• China

JEL CLASSIFICATIONS:

• F10
• F14
• F40

Acknowledgements

This paper was prepared for the conference entitled ‘Evolving Finance, Trade and Investment in Asia’ at the National University of Singapore on 16–17 September 2015. I thank conference participants and colleagues at RIETI for valuable comments. Any errors are my own responsibility.

Notes

1 Thorbecke (2015) has also investigated how exchange rates throughout the supply chain affect China's exports.

2 The website for these data is http://stats.oecd.org.

3 The IMF data are obtained from the CEIC database.

4 These data are obtained from the CEIC database.

5 Data on current account surpluses relative to GDP come from Trading Economics (www.tradingeconomics.com). The exchange rate data are the real effective exchange rate (broad index) obtained from the Bank for International Settlements (www.bis.org).

6 Schott (2015) documents the rise in Korea's current account surplus.