This non-technical summary does not constitute part of the above-captioned discussion paper but has been prepared for the purpose of providing a bold outline of the paper, based on findings from the analysis for the paper and focusing primarily on their implications for policy. For details of the analysis, read the captioned discussion paper. Views expressed in this non-technical summary are solely those of the individual author(s), and do not necessarily represent the views of the Research Institute of Economy, Trade and Industry (RIETI).
A comparison of the choice of invoice currency - i.e. the currency in which international trade is invoiced - shows that the share of exports denominated in home currency is extremely low for Japan, when compared with other developed countries. A closer look at breakdown data by export destination reveals that Japanese exporters have a distinct pattern in the choice of invoice currency. That is, Japanese companies tend to invoice in the importer's currency when exporting to developed countries such as the United States and eurozone countries, but are more inclined to choose the U.S. dollar over the yen for exports to other Asian economies. According to the "stylized facts" regarding the choice of invoice currency based on research conducted by Grassman et al. in the 1970s, trade between developed countries tends to be invoiced in the exporter's currency, and trade between developed and developing countries in the currency of the developed country. The above-described currency choice pattern of Japanese companies, which is contradictory to the stylized facts, is a "puzzle" and hence constitutes an important research subject.
In order to solve this puzzle, it is essential to collect detailed data on the choice of invoice currency in international trade. In view of the fact that invoicing currency choices are made by individual exporting (or importing) companies, firm-level data analysis of currency choice and the determinants for the choice is particularly important, and if realized would be a significant step forward in this area of research. In reality, however, such data are rarely available even in developed countries and this remains a major obstacle hindering progress in research on this particular subject.
In a bid to overcome such data constraints, we conducted an interview survey of corporate treasurers of leading Japanese exporters for the purpose of the above-captioned paper. Specifically, we interviewed treasurers of 23 Japanese companies from four major export industries (automobile, electrical machinery, general machinery, and electronic components) over the one-year period between autumn 2007 and autumn 2008. Through those interviews, we collected detailed firm-level data on the choice of invoice currency and underlying policies as well as on foreign exchange risk management. By using this new set of data and empirically analyzing the determinants of the choice of invoice currency, we attempted to explain the aforementioned two puzzling observations on Japanese companies' choice of invoice currency.
lists the total number of respondent companies classified by the type of currency most frequently used when invoicing exports as well as the breakdown figures for each of the four industries. (For instance, [14/21] in the "eurozone" column indicates that 14 of the 21 respondent companies answered that "importer's currency" - the euro in this case - is the most frequently-used currency in invoicing exports to eurozone countries). It precisely captures the two puzzling tendencies of Japanese exporters' invoicing behavior, showing that although exports to developed economies with major currencies are generally invoiced in the importer's currency, Japanese companies use the U.S. dollar, a third country currency, more frequently than the Japanese yen, their home currency, in invoicing exports to other Asian economies.
Table 1: Invoice Currency of Most Frequent Use in Japanese Exports by Destination
Why do major Japanese exporters make invoicing currency choices in the way discussed above? In our interview survey, we asked and examined the underlying policy behind the choice of invoice currency, whereby we discovered the following four types of determinants: (1) the type of export channel, for instance, whether specific export transactions are intra-firm trade, inter-firm trade, or trade via a trading company; (2) currency hedging costs; (3) the intensity of competition in the export destination markets and the degree of product differentiation; and (4) the structure of production and distribution network in which goods are produced in Asia and shipped to the U.S. as the final destination. We also constructed a data set based on firm-level financial data extracted from the financial statements of sampled companies. Then, we performed a probit analysis using the aforementioned determinants as explanatory variables, whereby we were able to empirically examine the significance level of each of the determinants in terms of their impact on the choice of invoice currency. First, in case of exports to developed markets, the importer's currency is more likely to be chosen as the invoice currency when: (i) the cost of hedging the currency risk is lower; (ii) exports from a Japanese parent company to its overseas subsidiaries (intra-firm transactions) account for a greater percentage of the company's overall exports; and (iii) export goods are less differentiated from competing products. Second, in case of exports to other Asian economies, in addition to the degree of importance attached to a specific transaction channel, as measured by the share of intra-firm transactions in overall exports, the role of subsidiaries is found to be an important determinant in Japanese companies' choice of invoice currency. That is, the choice of the U.S. dollar as the invoice currency in Japanese companies' exports to their subsidiaries in Asia depends on whether their manufacturing bases in Asia also serve as a base for exports to the U.S. as the final destination.
Those estimation results indicate that the puzzle of Japanese exporters' invoicing behavior is closely related with the structure of their cross-border production networks in Asia. However, so far as the U.S. dollar continues to be used as the invoice currency in transactions in Asia, Japanese companies' subsidiaries in Asia remain exposed to foreign exchange risks on two fronts, namely, in their transactions with Japanese parents (yen) and those with local customers (local currency). From a medium- to long-term perspective, such foreign exchange risks will have a non-negligible impact on the earnings and location choices of companies. As exchange rate stability between Asian currencies is important to Japanese companies, how to promote exchange rate policy coordination among Asian economies through the use of a regional currency basket and what role Japan should play in the process will become important policy issues.