Thursday, December 1, 2016

Financial Health and the Intensive Margin of Trade


Financial Health and the Intensive Margin of Trade


One sentence summary: Finance facilitates trade for big-sized and productive firms in emerging markets.

The corresponding paper by Deniz Baglan and Hakan Yilmazkuday has been accepted for publication at Emerging Markets Finance and Trade.


Abstract
Using data on 2380 firms from nine emerging countries, this paper shows that there is a positive and significant relationship between financial health and the intensive margin of trade. The magnitude of this positive relationship is shown to depend on several firm characteristics, where the effects of financial health on firm-level exports are larger for firms with higher levels of export, bigger size (measured by assets), higher productivity (measured by value added per worker), and moderate levels of financial health (measured by cash flow over total assets). The results are robust to the consideration of foreign ownership and country characteristics as well as industry and time fixed effects.


Non-technical Summary
International exporting at the firm level is subject to fixed costs, especially the costs related to finance; e.g., up to 90% of world trade has been estimated to rely on some form of trade finance. However, whether these costs are paid for one time (e.g., sunk costs at the time of entry into international markets) or each time (i.e., financial costs paid any time exported, such as costs of shipping, duties and freight insurance before export revenues are realized) is a subject of debate. While the former is connected to the role of finance in the extensive margin of trade, the latter is associated with the role of finance in the intensive margin of trade. The existing literature agree upon the role of finance on the extensive margin of trade. However, evidence for the role of finance on the intensive margin of trade is limited.

Within this picture, this paper investigates the relationship between financial health and the intensive margin of trade. Since financially more vulnerable firms may have alternative necessities for finance, we also consider possible nonlinearities arising from the determinants of financial vulnerability, such as size, productivity and foreign ownership, by employing parametric threshold and nonparametric estimation models. The Enterprise Surveys of the World Bank are used, where the data include observations from 2380 firms across nine emerging countries. Exports are measured in U.S. dollars, financial health is measured by the lagged value of cash flow over total assets, size is measured by the lagged value of log assets measured in U.S. dollars, and productivity is measured by the lagged ratio of value added (measured in U.S. dollars) over the number of workers, where using lagged values on the right hand side is important to control for any potential endogeneity problem.

The empirical results show that financial health is a significant factor in explaining the intensive margin of trade for many firms in our sample, although the magnitude of the effect changes across firms. When we search for a systematic explanation, we show that there are significant nonlinearities in the relationship between finance and the level of exports: financial health leads to higher levels of exports for highly-exporting, large, productive or domestically owned firms, after controlling for all else. Therefore, the role of finance on the intensive margin of trade is subject to nonlinearities in explanatory variables as suggested by the theoretical literature (which is discussed in details in the next section).

When we search for specific firm characteristics that are consistent with financial health being effective on the level of exports, we find through parametric threshold analyses that financial health is positively and statistically significant more for firms with sizes (measured by assets) higher than about 1,794,075(=exp(14.4)) U.S. dollars, with productivities higher than 8.05 U.S. dollars of value added per worker, and with cash flow over total asset measures more than 0.15. Despite their nonlinear structure, since parametric threshold models are still restrictive due to their piecewise linear structure on the financial health function, for robustness, when we continue our investigation using a nonparametric model, we show that the results are qualitatively the same and quantitatively very similar to the parametric threshold analysis. In particular, financial health is positively and statistically significant mostly for firms with median export values higher than about 80,000(=exp(11.3)) U.S. dollars (corresponding to about 33% of the observations in our sample), with median sizes (measured by assets) higher than about 180,000(=exp(12.1)) U.S. dollars (corresponding to about 50% of the observations in our sample), with median productivities higher than 7.12 U.S. dollars of value added per worker (corresponding to about 46% of the observations in our sample), and with median cash flow over total asset measures between 0.04 and 1.02 (corresponding to about 68% of the observations in our sample).


Hence, we provide clues for policy makers regarding which firms are more beneficial to subsidize in order to achieve higher export volumes that would support an export-oriented growth strategy. These results are robust to the consideration of the nationality of firms and country-industry-time fixed effects which are important to control for the effects of finance across emerging countries with potentially heterogenous characteristics where banks may be different or some firms may have export promotion agencies whilst others may not.  



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