Global imbalances and the international footprint of firms: what role for exchange rates?

Firms operating globally and enmeshed in global value chains have powered global growth. One indication of global firms' impact on the current account balance is that corporate saving (ie undistributed profits of firms) is an important determinant of the current account balance. Even merchandise exports need to be seen through a new lens, as balance of payments exports diverge from customs-based exports, sometimes by large amounts.

Above all, the exchange rate loses traction in balancing current accounts when global firms are playing such an important role, and instead the financial channel acquired significance through the financing of working capital such as inventories and receivables. The dollar exchange rate emerges as an indicator of financial conditions, with a strong dollar associated with tighter financial conditions. These insights shed some light on the recent slowdown in manufacturing and trade.

There are two takeaways. First, the accounting basis for macroeconomics is looking increasingly creaky in an age of global firms and global value chains. We need to rethink some key elements.

Second, the financial channel of exchange rates has become more potent, even as the traditional trade channels have waned in importance.