Forward Expectation of Exchange Rate and Chinese Importers

This paper presents theory and evidence on firm`s import response to expectations of exchange rate fluctuations. Building upon a heterogeneous-firm trade model, the paper predicts that with a foreseen appreciation of domestic currency, (1) more firms tend to enter importing market; (2) the most responsive entrants are those who are less productive; (3) the aggregate import surge is dominated by extensive margin (new entrants) rather than intensive margin (the imports by existing importers); (4) as more firms start importing, marginal benefit reduces due to a lower market share, which weakens the adjustment of extensive margin in the long run. Using a disaggregated data from Chinese Customs transactions and manufacturing firm annual survey, we confirm the model predictions using forward exchange rate premium between RMB and US dollars. Moreover, the heterogeneous response of firm`s importing behavior to forward exchange rate premium also relates to the firm`s productivity, external finance dependence, and other firm`s characteristics