Central Bank Swap Lines, Bank Risk Management and Currency Choice in Trade

Abstract

This paper proposes and investigates the role of bank risk management channel in how central bank local currency swap lines facilitate the international use of local currencies in trade invoicing. We exploit disaggregated data at the Korean exportertrading partner-year level on currency invoicing during 2006-2019. We find that the signing of swap lines between Korea and China has likely contributed to a rise of the RMB in invoicing shares among Korean exporters. Conversely, the expiration of a swap line between Korea and Japan has likely led to a decline in the Japanese yen (JPY) invoicing share. Importantly, Korean banks raised interest rates on RMB deposits but lowered them on JPY deposits. Furthermore, those Korean exporting firms whose main banks had more ex-ante exposure to China exhibit a greater increase in RMB invoicing. We rationalize this in a model in which the swap line on a foreign currency improves banks’ risk management with respect to that currency, which incentivizes them to offer higher deposit interest rate for that currency, leading to its greater use in trade invoicing.