It was a very pleasant surprise when I received an email from Luke Kawa just a day after I put out “Why a Weaker Effect of Exchange Rates on Net Exports Doesn’t Weaken the Power of Monetary Policy” on Medium (the day before I posted it here) asking for clarification since he wanted to quote it in a Bloomberg Business article. He understood the point perfectly in his excellent article “How Central Banks Gained More Control Over the World’s Major Currencies.” You should read the whole thing, but here is a key graph, a key passage, and Luke’s quotation from my post:
The foreign exchange team determined that an expected change in interest rate differentials between two countries from the Group of 10 nations is now accompanied by a much bigger move in the exchange rate:
… The rising import content in exports, however, does not imply that the efficacy of monetary policy has deteriorated. In fact, it’s compatible with the increased responsiveness of currencies to expected interest rate differentials described by HSBC.
“If net exports are relatively insensitive to the exchange rate, the exchange rate will simply move more,” wrote Miles Kimball, professor of economics at the University of Michigan. “Large fluctuations in the exchange rate are exactly what one should expect if net exports are relatively insensitive to movements in the exchange rate.”