Juan Camilo Medellín-Martíneze, 
Sergio Restrepo Ángela We empirically disentangle the short vs medium-run effects of exchange rate movements, on the investment of non-financial firms in Colombia from 2005 to 2019. We find that a structural depreciation of the peso weights on investment through a balance-sheet effect for firms with Foreign Currency (FC) debt. Exports provide a natural hedge against exchange rate fluctuations but only in the short-run. FC forwards protect firms against surprise currency depreciations; nevertheless, they present a cost of opportunity in terms of real investment. We also find that in periods of a depreciated exchange rate, big firms financially hedge while export-oriented and foreign firms use natural hedging and their relationship with headquarters to protect themselves against exchange rate movements. We rationalize our findings with the international macro and micro-finance literature.
The most recent
Focus
This paper combines an empirical analysis with a theoretical framework to distinguish the short- and medium-term effects of exchange rate movements on firms’ investment. It uses a detailed dataset of balance sheets and income statements of Colombian firms, together with information on financial derivatives, exports, and imports. Advanced econometric techniques are applied to identify the channels through which the exchange rate affects investment, taking into account both structural factors and transitory shocks.
Contribution
The paper’s main contribution is to decompose the effects of the exchange rate into three channels: competitiveness, the nominal revaluation of export revenues, and balance sheet effects stemming from foreign currency debt. In addition, it identifies that financial hedging through derivatives—while protecting firms against exchange rate surprises—may constrain investment when the exchange rate remains depreciated for prolonged periods, due to higher costs and tighter financial constraints.
The study also shows that firms’ borrowing and hedging decisions respond to their own characteristics, rather than being driven solely by inherited effects from exchange rate movements.
In contexts of sustained depreciation, firms face a trade-off between investing and engaging in financial hedging, suggesting the need for policies that improve the liquidity and accessibility of the derivatives market to reduce these costs and foster investment.
Results
Empirically, the results indicate that large firms tend to reduce their exposure to foreign currency debt and increase their use of derivatives during periods of depreciation, while exporting and foreign-owned firms increase their foreign currency borrowing and reduce their financial hedging. Firms’ investment is found to be more affected by structural depreciations than by temporary exchange rate shocks.
Finally, the paper concludes that in contexts of sustained depreciation, firms face a trade-off between investing and engaging in financial hedging. This finding points to the need for policies aimed at improving the liquidity and accessibility of the derivatives market in order to reduce these costs and foster investment.