Impact of Forex Rate Volatility on Prices

EghtesadOnline: Over the past decade, goods and services in Iran suffered at least two bouts of price shocks following unprecedented volatility in the currency market due to foreign economic sanctions.

News ID: ۷۴۸۶۹۰

12 October 2019

But apparently the impact on diverse industries varies in terms of both the pace at which prices are affected and the extent of price surge. Say, for example, how far the price of a product soars due to rise in forex rates.

The Monetary and Banking Research Institute -- affiliated to the Central Bank of Iran - has examined the spillover effect of currency rate fluctuations on prices of goods and services in the domestic market.

Drawing on prices of 2,369 products made by companies listed in the stock market during 2005-2018, and the Production Price Index reported for 734 other items by official bodies, the MBRI concluded that the goods were influenced mostly by currency rate fluctuations, Financial Tribune reported.

Range of Effects

The effect of currency fluctuations across industries was reported in terms of the cumulative effect of change in currency rates on the prices of goods in the domestic market.

The figure is represented in numbers ranging from zero to one with zero taking the least influence from the currency shocks and 1 the highest.

Accordingly, the figure for the industry sector went up to 0.93, meaning that prices in the sector rose in tandem with hikes in forex rates.

This was followed by the transportation, warehouse and communication sectors with a cumulative effect of 0.74.

Rate for services and products in the hospitality, health and social sectors ranged from 0.45-0.48 and the cumulative effect of currency fluctuation on the price of agricultural products was 0.55.

Impact on the education sector was the lowest at 0.03, meaning that it was almost immune to currency rate shocks.

Immediacy of Effects

To measure the time span between fluctuations in the currency market and the change in the price of goods, the MBRI considers the number of seasons it takes for prices of goods to rise.

Accordingly, currency shocks have had the most immediate impact on farm products. Price rises in this sector appeared in the books of companies’ two seasons after the recurrent currency shocks.

The industry sector came next, responding to change after 2.6 seasons.

At the other end of the spectrum, the services sectors experienced the effect of currency shocks with the longest delay. However, the delay was not the same for all subsectors.

In hospitality sector, for example, it took 2.7 seasons for prices to rise while in transportation, education, health and social working this took as high as 5.2 seasons.

Quality of Companies

Regarding factors affecting susceptibility of goods and services prices to currency shocks, the study refers to the export/import orientation of companies, dependency on foreign currency, and the degree to which the dollar is considered as the reference currency in importing and exporting goods.

Likewise, factors that mitigate the vulnerability of prices to hikes in forex prices include the degree to which the  company is owned and controlled by the government,  size of the company and the level to which the greenback is taken as the reference currency for exporting goods and services.

Industries that were influenced the most by changes in currency prices were paper production and synthetic fibers. This is while food products, printing and textile industries were more resistant chaos-plagued currency market.

Industries that showed the most delayed response to currency rates were cooking oil, printing and power transmission. These industries responded five seasons after the currency volatilities.

On the flip side, industries that showed the quickest response were starch production, iron and steel and precious non-ferrous metals. Prices in these industries rose two seasons after the forex rate fluctuations.

With regard to vulnerability of companies in terms of their financial solvency, the study said small enterprises with deep financial strains were more prone to raise the price of their products after the currency fluctuations. The crisis-stricken companies were also more likely to push up prices at a quicker pace.

Also the price change in companies in which the government had bigger stakes was less noticeable compared to private companies, mainly because of the stricter rules and supervision over prices.

In addition, companies that were bigger in size were more resistive toward the currency crisis because they had access to bigger financial resources, had more bargaining power and better oversight on prices.

Manufacturers of intermediate products (as opposed to consumer and capital products) and businesses that were largely dependent on foreign currency also were quick to raise jack up prices.

Export-oriented companies responded to the currency shocks faster than import-oriented firms, though unlike expectations, the impact on prices was less than other companies.

The extent to which a company is export-oriented was determined by the ratio of its overseas sales to the overall sale of the company.

Likewise, a company is import-oriented if the ratio of imports is higher than the total input for goods production.

In addition, price rise in companies where earnings were in non-dollar currencies was more conspicuous than those with dollar income.  The same was true for companies whose expenditure was in dollars.