The Effect of Exchange Rate Volatility on Productivity of Korean Manufacturing Plants: Market Average Rate Regime vs Free Floating

Abstract

This study examines how exchange rate volatility can influence total factor productivity (TFP) invarious dimensions. Using Korean manufacturing plant-level data for 1990-2007, we first compare and contrast the effects of exchange rate volatility on TFPs between two different exchange rate regimes—pegged and free floating. We find that the exchange rate volatility had a negative effect on productivity in both regimes but this negative effect was greater during the period when exchange rate fluctuation was restricted, compared to the period with free floating rate. We also find that the negative effects of the volatility on productivity were heterogeneous over TFP quantiles and exhibited an inverted W-shape curve. In particular, the negative effects were more pronounced for exporting plants that had the lowest or highest TFPs.