Exchange Rate Induced Export Quality Upgrading: A Firm-Level Perspective

Abstract

This paper explores the impact of exchange rate fluctuations on exported product quality. Existing studies of quality upgrading stress the link between home country depreciation and increased access to export markets. Our focus in this study is on the complimentary effect of an import currency appreciation (i.e., the domestic currency appreciates relative to the sourcing country's currency). Our main finding is that firms upgrade their export quality in response to an import currency appreciation. We first develop a partial equilibrium model to reveal the mechanism: an import currency appreciation that makes imported intermediates cheaper allows firms to switch to higher quality intermediates, which in turn, increase export quality. Using Chinese Customs data during 2000-2006, we find that an import appreciation increases both import, and export quality. Furthermore, export quality increases more for less productive firms, and for firms exporting to developed countries.