Arm'S-Length Transactions as a Source of Incomplete Cross-Border Transmission: The Case of Autos

59 Pages Posted: 18 Apr 2006

See all articles by Rebecca Hellerstein

Rebecca Hellerstein

Federal Reserve Bank of New York; Macro Labs

Sofia Berto Villas-Boas

University of California, Berkeley - Agricultural & Resource Economics

Date Written: April 2006

Abstract

A growing share of international trade occurs through intra-firm transactions, transactions between domestic and foreign subsidiaries of a multinational firm. The difficulties associated with writing and enforcing a vertical contract compound when a product must cross a national border, and may explain the high rate of multinational trade across such borders. We show that this common crossborder organization of the firm may have implications for the well-documented incomplete transmission of shocks across such borders. We present new evidence of a positive relationship between an industry's share of multinational trade and its rate of exchange-rate pass-through to prices. We then develop a structural econometric model with both manufacturers and retailers to quantify how firms' organization of their activities across national borders affects their pass-through of a foreign cost shock. We apply the model to data from the auto market. Counterfactual experiments show why cross-border transmission may be much higher for a multinational than for an arm's-length transaction. In the structural model, firms' pass-through of foreign cost shocks is on average 29 percentage points lower in arm's-length than in multinational transactions, as the higher markups from a double optimization along the distribution chain create more opportunity for markup adjustment following a shock. As arm's-length transactions account for about 60 percent of U.S. imports, this difference may explain roughly 20 percent of the incomplete transmission of foreign-cost shocks to the U.S. in the aggregate.

Keywords: Cross-border transmission, Multinationals, Arm's-length transactions, Real exchange rates, Exchange-rate pass-through, Vertical contracts, Autos

JEL Classification: F14, F3, F4

Suggested Citation

Hellerstein, Rebecca and Hellerstein, Rebecca and Villas-Boas, Sofia, Arm'S-Length Transactions as a Source of Incomplete Cross-Border Transmission: The Case of Autos (April 2006). FRB of New York Staff Report No. 251, Available at SSRN: https://ssrn.com/abstract=890663 or http://dx.doi.org/10.2139/ssrn.890663

Rebecca Hellerstein (Contact Author)

Federal Reserve Bank of New York ( email )

33 Liberty Street
New York, NY 10045
United States

Macro Labs ( email )

Sofia Villas-Boas

University of California, Berkeley - Agricultural & Resource Economics ( email )

310 Giannini Hall # 3310
Berkeley, CA 94720
United States
510-643-6359 (Phone)
510-643-8911 (Fax)

Do you have negative results from your research you’d like to share?

Paper statistics

Downloads
112
Abstract Views
1,825
Rank
441,712
PlumX Metrics