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Does Exchange Rate Volatility Dampen Imports? Commodity-Level Evidence From India
Abstract
This paper studies the effect of exchange rates’ volatility on India’s imports on a balanced panel of 73 commodities spanned from April 2013 to October 2016. Rather than using cross-country bilateral import flows, we test the relationship at the commodity level using disaggregated trade data with monthly frequency. Generalized autoregressive conditional heteroscedasticity model is used for estimating exchange rate. We employ pooled mean group estimator for simultaneously assessing long- and short-run association between nominal exchange rate volatility and import volume. In the long-run, for all commodities, a 100% increase in volatility results in a 12% drop in India’s imports. A significant dampening impact of volatility of exchange rate on imports is evidenced also in short-run. However, at the disaggregate level, imports in the agricultural and allied sector are found to be relatively more sensitive to exchange rate volatility as compared to the manufacturing sector. We also conducted a time series analysis for the aggregate data covering both pre- and post-crisis period. The results validate the findings of commodities-level panel data analysis. This paper concludes with policy implications of our findings.
... There are many previous studies that has ignored the significant role of price variable and global crisis period and causality in their study (for instance Bahmani-Oskooee and Mitra, 2008a, b;Bahmani-Oskooee et al., 2013;Bahmani-Oskooee et al., 2014;Bahmani-Oskooee and Harvey, 2011;Bahmani-Oskooee and Gelan, 2018). However, in this study, we include price variable, as it plays an important role in trade market (Reinhart, 1995;Murat, 2010;Sharma and Pal, 2019). Therefore, it is dire demand to explore whether real exchange rate volatility impact on each commodity of India's import from the US and its performance by undertaking crisis period. ...
... Also, there is unidirectional causality running from volatility to import, explanation to it is as the volatility used is of real exchange rate of INR-DOLLAR, hereby it is assumed that exchange rate market do play a significant role in international trade. This causation from volatility to import may bring the attention of the trade policy as majorly the volatility of real exchange rate has discouraging influence on import supported by Sharma and Pal (2019). Lastly, the causality from price to volatility is also mentioned. ...
... Therefore, real exchange rate volatility depicting depreciation in home currency affects 8 commodities negatively in short-run and positively in long-run and is consistent with J-curve theory. This result are similar in line with Bahmani-oskooee and Harvey (2011), Arize et al. (2017), Bahmani-Oskooee and Karamelikli (2018), Sharma and Pal (2019). The result of this study in relation to exchange rate with import commodities is positive with some commodities and negative with few other commodities. ...
Purpose
The aim the study is to explore the impact of real exchange rate volatility and other macroeconomic variable such as price of import, industrial production and real exchange rate on 45 import commodities, considering global financial crisis period on India's import from the US. The empirical analysis at disaggregate level of import indicates the existence of both short-run and long-run effect in one-third importing commodities. The results show both positive and negative effect and causality among variables.
Design/methodology/approach
The study uses E-GARCH model to gage the real exchange rate volatility, an autoregressive distributive lag (ARDL) bound test technique to discover the adequate short- and long-run relationships and Toda-Yamamoto causality method to analyze the causality among variables. The study uses the time period from 2002:M09 to 2019:M06.
Findings
The empirical analysis at disaggregate level of import indicates the existence of both short-run and long-run effect in one-third importing commodities. The results show both positive and negative effects and causality among variables.
Practical implications
The finding of the study suggests that macroeconomic variables have significant role and could be important to undertake the small and medium scale industries in policymaking. Government may need to make decision for micro, small and medium enterprises (MSMEs) as their performance can bring change in the trade to compete globally by increasing and controlling the price of the import and defending the domestic competitiveness.
Originality/value
The study uses additional variable namely price of import and includes the global financial crisis period to measure dampening effect on each commodity by using robust econometric technique in context of emerging nation like India.
... The assumption of infinite import supply elasticity eventually reduces to a single equation import demand function. Some recent studies, such as Tang (2003) in the case of China and Sharma and Pal (2019) and Sharma (2020) for India, adopt the imports or export demand model that includes indicators on income/output/expenditure proxied by GDP or industrial production and prices proxied by exchange rate, unit price of imports and inflation (with the nominal exchange rate). Our models are broadly based on Bloom (2009Bloom ( , 2017 and Bernanke (1983) approach that macro-level uncertainty can affect the demand of the product through consumption and investment routes. ...
... Further, the uncertainty in economic environment and COVID-19-related stringencies are expected to have an effect on production, income and consumption; therefore, these factors might affect the import demand. Broadly, we follow previous studies such as Choudhry and Hassan (2015) and Sharma and Pal (2019) and use the following empirical model for country i and month t: ...
The world economy has recently navigated through the pandemic caused by the coro-navirus. Almost all the affected countries have responded with stringency measures to control the pandemic. However, these restrictions appear to have critically impacted the global supply chain and cross-border movement of goods. In this regard, we attempt to investigate the impact of pandemic-related stringency measures on India's import demand. For this purpose, we use bilateral monthly import data of India with its major trading counterparts. Our findings suggest that stringency measures have a positive impact on imports, indicating that the economy relies more on imported items when its domestic production and supply chain are disrupted by the pandemic-related restrictions. Conversely, the import origin countries' restrictions have a negative impact on Indian imports, indicating that these restrictions have adversely affected the production and supply chain in origin countries, thereby reducing the overall flow of imports to India. We also find that economic policy uncertainty of home and product origin countries has a negative impact on Indian imports. Our results also confirm that the pandemic-related restrictions and different types of uncertainty have an asymmetric effect on imports.
... Similarly, the exchange rate volatility is found to significantly impact imports in both the current and subsequent periods. This positive relationship does not align with the previous studies by Alam (2012) and Sharma and Pal (2019) who argue that greater volatility in exchange rates reduces import. This counterintuitive result may suggest speculative behavior. ...
This study investigates the import demand function for Nepal using a time series econometric approach over 34 years (1990–2023). The analysis employs the ARDL model to estimate the relationship between the import demand of Nepal and key determinants such as remittances, real exchange rate, exchange rate volatility, and Indian inflation. The results show that Nepal’s import demand is income-elastic for remittances and price-elastic for exchange rates, with a significant J-curve effect observed for exchange rate depreciation. Exchange rate volatility positively affects imports, suggesting speculative behavior by importers. Indian inflation has a modest positive impact on imports, reflecting Nepal's dependence on Indian goods. Diagnostic tests confirm the robustness of the model, with no issues of autocorrelation, multicollinearity, or heteroskedasticity. The study’s policy implications emphasize the need for exchange rate stability, managing remittance flows for productive use, controlling domestic inflation, and diversifying trade partnerships to reduce reliance on Indian imports. These measures could help mitigate external shocks and foster long-term economic stability.
... After employing multiple regressions, researchers discovered that CAB, net trade, and remittances significantly affect the exchange rates of Japan and India, but only marginally so for China and South Korea. Sharma and Pal (2019) investigated the relationship between the exchange rate and imports of 73 commodities in India between 2013 and 2016. This relationship was tested using the heteroskedasticity and time series models. ...
Volatility increases the risk of exchange rate, and the risk of exchange rate refers to losing money due to fluctuations in the exchange rate. Thus, it significantly impacts the country's economic development stability or sustainability, as making investment and trade decisions under volatile exchange rates is complicated. The macroeconomic stability of the Sustainable Development Goals (SDGs) of the United Nations can only be achieved partially with the fluctuation of the exchange rate in a country. Therefore, to stabilize exchange rate fluctuations, Pakistan's policymakers are making determinations about the US dollar specifically, which is one of the main reasons why this research study aims to identify the macroeconomic factors that determine the volatility of exchange rates in Pakistan; therefore, for this research study, annual data is used. This study uses an Autoregressive distribution lag (ARDL) model, which assesses cointegration between variables to see their short-and long-term relationship. As a result, there is cointegration, according to the results of the ARDL bound test. Furthermore, in short- and long-period relationships, debt, interest rates, and political stability are revealed to have statistically significant consequences on currency rate volatility. Finally, the Granger causality test analyses that terms of trade, debt, political stability, and inflation cause fluctuations in the exchange rate. On the contrary, the volatility of the exchange rate affects the country's current account. As a result, it is stated that, except for current account balance and interest rate from Granger causality, all the macroeconomic factors selected in this study are drivers of exchange rate volatility. However, the vital common determinants from the ARDL and Granger test are debt and political stability, which influence exchange rate fluctuation and hamper the country's economic sustainability. This study implies that the government should also reduce its debt financing by reducing its non-productive expenditure and ensuring political stability, essential for stabilizing the exchange rate. This macroeconomic stability can increase the impact of the market rate to influence foreign direct investment, leading to the appreciation of the currency and sustainable economic growth of the country.
... Following De Vita and Kyaw (2013) and Sharma and Pal (2019), we used GARCH to measure ERV. Table 3 summarizes variable measurement and data sources. ...
... Indian economy post liberalization has witnessed unexpectedly rise in import. Undertaking India's case the tariff levied on import has decreased from 87% to 45% during pre-liberalization to post liberalization era in 1987 to 1994 (Sharma & Pal, 2019). The reverberation of exchange rate fluctuations on trade holds a large accumulation of studies. ...
The centre interest of the study is to explore the impact of exchange rate volatility on the India-U.S. trade flow of Import on 6 industries spanned from September 2002 to June 2019. We investigate the relationship at disaggregate level by industry-wise data with monthly frequency. We employ exponential generalized autoregressive conditional heteroscedasticity (E-GARCH) model to gauge volatility and thereafter ARDL bound testing approach to unveil the short and long-run association of real exchange rate volatility and import. The empirical analysis implies the existence of both short-run and long-run effect in 5 importing industries except manufactured (engineering) goods. While real exchange volatility appears to have statistically significant effect in short-run, but also estimated short-run lasts onto long-run effect in only three industries. The results confirm the information of import in time-series analysis. The finding of the study helps to undertake the view of invariability and considering the industry before policy making.
... Sharma and Pal [26] tested the sensitivity of India's imports of 73 commodities to exchange rate variability over the period from April 2013 to October 2016. The authors apply a pooled mean group estimator for simultaneously assessing long-and short-run association between nominal exchange rate volatility and import volume. ...
The paper was conducted to survey and review the effects of exchange rate volatility on trade performance. Since the last review articles by McKenzie and Bahmani-Oskooe and Hegerty, the literature has experienced a surge in the number of articles. Many of the recent studies have been empirical in nature and these deserve specific attention. There is often more than one measure of volatility applied in a study, and some new measures of exchange rate volatility are introduced. Although there are relatively new econometric models being applied in this research area, the determinants of trade performance in recent studies are simple. In addition, the number of studies using bilateral trade data levels has increased over time. Although a large number of studies are reviewed in this study, existing empirical evidence on the trade effects of exchange rate volatility is generally inconclusive. These new contributions set the stage for this review.
... We used the industrial production index (IPI) in place of GDP due to two main reasons. First, we are using monthly sectoral energy imports because the GDP data are not available in monthly frequency (Bahmani-Oskooee and Sharma and Pal, 2019). Second, the IPI represents purely the production sector that is one of the major consumers of energy (Zhao and Wu, 2007). ...
Growing energy demand but stagnant production followed by volatile exchange rate leads Pakistan to energy imbalances and potential economic contraction. Yet, studies on sectoral energy imports are limited and inconclusive without accessing the asymmetric effect of currency fluctuations. We examine the impacts of Pakistani rupee volatility on monthly energy imports based on the nonlinear autoregressive distributed lag (NARDL) estimations. Augmented Dickey–Fuller and Phillips–Perron tests were used to conduct unit root testing, and the bound testing approach was used to examine the long-term cointegration. The long-run asymmetry was tested with the Wald test, and using the NARDL model, we examined both short-run and long-run asymmetric effects of exchange rate volatility on energy imports. The bound test was established and supported through E C M t − 1 (t-test), cointegrating the relationship between exchange rate volatility and energy imports in a long term. Among others, both short-run and long-run asymmetric effects were found for crude oil, coal, electricity, and petroleum products. Rupee depreciation increased crude oil and electricity imports, while the appreciation effects were insignificant. Overall, the empirical assessment reveals that the foreign exchange volatility effect is sectoral specific and asymmetric in Pakistan. It offers new insights into re-strategizing the energy policy and refining the import substitution plan.
This study aims to examine the long-term and short-term diverse effects of economic policy uncertainty, trade policy uncertainty, and financial market uncertainties on the import performance of advanced economies. It employs the Pooled mean group autoregressive distributed lag (PMG/ARDL) method for the panel of 27 advanced economies using quarterly data from the first quarter of 1996 to the fourth quarter of 2020. The study's results reveal that local and global economic and trade policy uncertainties have significant adverse long-term effects on the import performance of advanced economies. Besides, financial market uncertainties negatively impact advanced economies’ imports in the long run. Nonetheless, the results imply that domestic economic and trade policy uncertainties positively affect imports in the short run. Moreover, the Dumitrescu-Hurlin (D-H) panel causality test indicated that bidirectional causality exists between financial market and trade policy uncertainty indicators and imports. However, unidirectional causality exists between economic policy indicators and imports. The results are consistent across different sensitivity analyses. Based on these findings, we propose policy implications to control economic, trade and financial market uncertainties and thereby alleviating their impact on the import performance of advanced economies.
Exchange rates play a crucial role as economic indicators in developing nations such as Pakistan, where their instability can have profound effects on economic stability. This study investigates the dynamics of asset returns, risk factors, and exchange rate volatility under different political systems, focusing on both daily and monthly frequencies. Utilizing daily and monthly time-series data on U.S. dollar exchange rates from 1981 to 2021, the research categorizes this period into three political eras: pre-autocracy (1988-1998), autocracy (1999-2008), and post-autocracy (2009-2022). The GARCH family of models is employed to analyze exchange rate volatility within these political contexts. The results indicate that pre- and post-autocracy regimes exhibit minimal or insignificant average daily returns, while monthly returns are positive and statistically significant. In contrast, autocracy regimes show zero or insignificant average returns in both daily and monthly exchange rates. The study identifies an asymmetric impact of positive and negative news across all regimes and frequencies, except for post-autocracy's monthly exchange rate, which displays symmetry. Notably, positive news has a more pronounced influence than negative news in all regimes, highlighting an asymmetry in news impact. However, the impact of positive and negative news is symmetric in the monthly exchange rate during post-autocracy. The study suggests a direct correlation between the magnitude of democracy and autocracy and heightened exchange rate volatility. Emphasizing the lower risk and higher returns of monthly exchange rates, it recommends that governments, investors, and traders focus on monthly investments, trading strategies, and policy formulation. The observed symmetry in the impact of disruptive events within the monthly exchange rate, particularly in the current era, holds promise for informed policy and decision-making.
Bu çalışmanın amacı, EAGLE ülkelerinde uluslararası hizmet ticareti ve döviz kuru volatilitesi arasındaki ilişkinin 2010Q2-2020Q4 dönemi için incelenmesidir. Döviz kuru volatilitesi EGARCH modeli ile elde edilmiş; döviz kuru volatilitesinin hizmet ithalat ve ihracatı ile olan ilişkisi ise panel veri analiz yöntemleri ile analiz edilmiştir. Analiz sonuçlarına göre EAGLE ülkelerinde döviz kuru volatilitesi, hizmet ithalat ve ihracatını pozitif; döviz kuru ise negatif etkilemektedir. Diğer bir ifade ile, döviz kurundaki volatilitenin hizmet ticaretini zayıflattığı ancak döviz kurundaki artışın güçlendirdiği sonucuna ulaşılmıştır. Çalışma gelişmekte olan ekonomilerde döviz kuru riskinin uluslararası hizmet ticaret üzerindeki etkilerinin değerlendirilmesi itibariyle önem taşımaktadır.
The purpose of the study is to forecast the volatility for returns of the exchange rate of Pakistan concerning US dollars along with the impact of covid-19 so that we can find out the feasibility of holding this asset along with the risk and returns associated with it. For this purpose daily data has been taken from the State bank of Pakistan on a period from February 01, 2001, to June 30, 2021, where covid-19 is used as a dummy variable. Furthermore, in methodology, we applied GARCH models after finding the presence of the ARCH effect which is at ARCH (6) in the series. It is found in all GARCH models that the past volatility of the exchange rate returns has a statistically significant influence on the current volatility of the exchange rate means there is time-varying and time-correlated volatility associated with exchange rate returns. According to GARCH-M, GARCH-M (variance) (1,1) and GARCH-M (SD) (1,1) results it is concluded that average returns of exchange rate are small but significant and there is no risk factor associated with exchange rate returns but the past square residual terms have a significant impact on risk volatility. Furthermore, Both T-GARCH and E-GARCH depicts that the impact of covid-19, which is bad news, although has a significant impact but its magnitude has a lesser influence on exchange rate volatility than the good news.
In this study, we theoretically and empirically examine the connectedness of exchange rate uncertainty and inflation. In a small open economy setting with a flexible exchange rate and monopolistically competitive imported final goods sector, we show that price rigidities cause importers to carry exchange rate risk and they impose a premium for the risk they face by increasing consumer prices. This pricing behavior provides a channel between exchange rate uncertainty and overall price level. Then, we empirically analyze the impact of exchange rate uncertainty on inflation by using panel data from 149 countries over the period 1980-2017. The estimation results point that the uncertainty of the exchange rate has a significant and positive effect on inflation. Moreover, the degree of exchange rate pass-through and the effect of exchange rate uncertainty on inflation differ among country groups and their effects on inflation have decreased through time. We also show that the effect of exchange rate uncertainty on inflation is non-monotonic.
This study investigates the effects of economic policy and financial market uncertainties on Indian imports. For this purpose, we consider a panel of 97 commodities imported to India during the period: September 2011 to January 2019. We utilize two panel estimation techniques, the Pooled Mean Group (PMG) and Cross-sectionally Augmented Distributed Lag (CS-DL), for the analyses. In the short-run, we find that economic uncertainty leads to
more imports to India. Conversely, in the long-run, it has a dampening effect. Our estimates also reveal that both domestic and global economic uncertainties have a considerable impact on Indian imports. However, we do not find any noticeable impact of financial market uncertainty on the imports. For robustness purposes, we also make
use of aggregated import data for a longer time-horizon. These results fairly validate the findings of the commodity-level analysis. Finally, our sectoral-analysis suggests that the imports of primary products are more sensitive to the policy uncertainty than those of the manufacturing products. Given that, our study offers detailed policy suggestions in the context of an emerging economy.
Although the empirical findings on the impact of exchange rate volatility on trade is diverse, the growing consensus in the literature appears to suggest that for developing economies, the theoretically expected negative relationship almost always exists. The paper takes a different approach to empirically assess this relationship by analysing the impact of exchange rate volatility independently on total trade, imports and exports. The intuition behind this approach is to assess exactly how exporters and importers are incentivised (differently or similarly) by exchange rate volatility costs. Whereas adequately risk-aversed Ghanaian exporters in the presence of higher exchange rate volatility and the absence of hedging facilities effectively compensated against exchange rate risk by increasing volume of exports, import decisions were to some extent (although not effectively) negatively affected by exchange rate volatility. The different responses by Ghanaian exporters and importers to higher exchange rate volatility costs are reflected in the relationship between volatility and total trade. The useful policy lessons and the challenges that the empirical evidence present are discussed.
This study aims to analyse the role of imported inputs on productivity and export performance of the manufacturing industries of India. Our results indicate that imported inputs are crucial determinates of Total Factor Productivity (TFP). However, the impact varies greatly across industries. Furthermore, results regarding research and development (R&D) intensity suggest that in-house R&D activities do not play a significant role in the productivity performance of Indian manufacturing firms. Our results also indicate that imports lead to a substantial growth in exports. In particular, exports in the chemical, machinery and transport equipment industries are highly dependent on imported intermediate goods. The results also indicate that although R&D is not linked with the productivity of industries, it has an important role in the export performance of these industries. TFP is also estimated to have a significant and sizable impact on export performance. This, in turn, supports the self-selection hypothesis, which explains the self-selection of more productive firms into the export market. Overall, our results support both hypotheses: learning by importing and self-selection in the import market.
This paper studies the role of exchange rate volatility in determining the UK's real imports from three major developing countries – Brazil, China, and South Africa. The paper contributes to the literature by investigating the third country effect and also by analyzing the impact of the current financial crisis on the relationship between exchange rate volatility and UK imports. This paper further expands the empirical literature on the subject by offering evidence based on the asymmetric autoregressive distributed lag (ARDL) method from the application of monthly data from January 1991 to December 2011. Results suggest that exchange rate volatility plays an important role in determination of trade and also reveal a significant effect of the recent financial crisis on UK imports. This finding remains consistent when we test for the third country volatility effect. We also find that there is a significant causal relationship between exchange rate volatility and UK imports. The third country effect is significant for all the countries investigated. These results have significant implications for the trade policy and international trade in minimizing the underlying risk factors and ensuring stable trade flows in different economic scenarios.
India's economic liberalization in the 1990s provides scope for research on the effects of policy reforms on economic performance. This paper examines some of these policy changes and their impact on firms’ productivity and efficiency. We assess, specifically, the role of export and import (total, intermediate, and capital goods) as an outcome of trade liberalization, R&D, technology transfer, and infrastructure endowment over the period 1994-2008. Although our analysis may involve certain biases in capturing the causal relationships, results suggest that infrastructure is a crucial determinant of manufacturing performance in India. This is true for a wide range of variables, such as transport, energy, and information and communication technology (ICT). This finding has important policy implications in the Indian context, as several parts of the country are constrained by severe infrastructure shortages. Other empirical results concern knowledge transfers, which seem to materialize more through exports than imports. Our findings also suggest that R&D is not a productivity-enhancing activity in India and that firms rely more on purchase of foreign technology. This outcome does not come as a surprise because Indian firms are known for low in-house research and limited innovation-oriented activities.
Trade and Firms’ Performance in Indian Manufacturing
This book provides a wide-ranging account of the literature on co-integration and the modelling of integrated processes (those which accumulate the effects of past shocks). Data series which display integrated behaviour are common in economics, although techniques appropriate to analysing such data are of recent origin and there are few existing expositions of the literature. This book focuses on the exploration of relationships among integrated data series and the exploitation of these relationships in dynamic econometric modelling. The concepts of co-integration and error-correction models are fundamental components of the modelling strategy. This area of time-series econometrics has grown in importance over the past decade and is of interest to econometric theorists and applied econometricians alike. By explaining the important concepts informally, but also presenting them formally, the book bridges the gap between purely descriptive and purely theoretical accounts of the literature. The asymptotic theory of integrated processes is described and the tools provided by this theory are used to develop the distributions of estimators and test statistics. Practical modelling advice, and the use of techniques for systems estimation, are also emphasized. A knowledge of econometrics, statistics, and matrix algebra at the level of a final-year undergraduate or first-year undergraduate course in econometrics is sufficient for most of the book. Other mathematical tools are described as they occur. Available in OSO: http://www.oxfordscholarship.com/oso/public/content/economicsfinance/0198288107/toc.html
This paper exploits India's rapid, comprehensive, and externally imposed trade reform to establish a causal link between changes in tariffs and firm productivity. Pro-competitive forces, resulting from lower tariffs on final goods, as well as access to better inputs, due to lower input tariffs, both appear to have increased firm-level productivity, with input tariffs having a larger impact. The effect was strongest in import-competing industries and industries not subject to excessive domestic regulation. While we find no evidence of a differential impact according to state-level characteristics, we observe complementarities between trade liberalization and additional industrial policy reforms. © 2011 The President and Fellows of Harvard College and the Massachusetts Institute of Technology.
This paper argues that the effect of exchange risk on bilateral and aggregate trade flows should be analyzed by including the impact of third-country exchange risk factors in addition to direct bilateral or multilateral risk. After a theoretical examination of these effects, US bilateral export flow to its six largest trading partners are analyzed empirically. I find individuality and jointly significant third-country risk effects in most cases. In contrast to some recent bilateral efforts, I find a steadily growing negative impact on trade flows from exchange risk during floating. And in contrast to recent aggregate trade flow studies, I conclude that there was no temporary decline in exchange risk during the late 1970s.
This paper examines the impact of bilateral real exchange rate volatility on real exports of five emerging East Asian countries among themselves as well as to thirteen industrialised countries. We explicitly recognize the specificity of the exports between the emerging East Asian and industrialised countries and employ a generalized gravity model that combines a traditional long-run export demand model with gravity type variables. In the empirical analysis we use a panel comprising 25 years of quarterly data and perform unit-root and cointegration tests to verify the long-run relationship among the regression variables. The results provide strong evidence that exchange rate volatility has a negative impact on the exports of emerging East Asian countries. These results are robust across different estimation techniques and do not depend on the variable chosen to proxy exchange rate uncertainty.
The authors develop an analytically tractable two-country model that marries a full account of global macroeconomic dynamics to a supply framework based on monopolistic competition and sticky nominal prices. The model offers simple and intuitive predictions about exchange rates and current accounts that sometimes differ sharply from those of either modern flexible-price intertemporal models or traditional sticky-price Keynesian models. The authors' analysis leads to a novel perspective on the international welfare spillovers due to monetary and fiscal policies. Copyright 1995 by University of Chicago Press.
In this paper we obtain and interpret new estimates of the short- and long-run influence of exchange-rate volatility (or risk) on the import flows of the United States, in the generalized floating exchange-rate period. The major finding is that there is a significant long-run negative effect of exchange-rate volatility on the volume of imports, as well as, a significant short-run negative effect. Therefore, it can be argued that exchange-rate volatility will have significant effects on the allocation of resources by market participants and that policy-makers can no longer rely on an import demand with only conventional variables for long-term international trade planning, forecasting and policy formulation. [F14, F31]
All previous studies that assessed the impact of exchange rate volatility on trade flows assumed that the effects are symmetric. In this paper, we open a new path in the literature by arguing that indeed the effects of exchange rate volatility on trade flows could be asymmetric. The asymmetric effects are mostly due to the change in expectations of traders when a currency depreciates as compared to a case when that currency appreciates. We demonstrate the asymmetric effects by using monthly data from 54 Malaysian industries that export to the U.S. and from 63 Malaysian industries that import from the U.S. The application of the nonlinear Autoregressive Distributed Lag (ARDL) approach of Shin et al. (2014) supports short-run as well as long-run asymmetric effects in almost 1/3rd of the industries. The approach identifies industries that are affected when volatility increases versus those that are affected when volatility declines.
This paper examines the effect of exchange rate volatility on international trade volumes for Mexico, Indonesia, Nigeria, and Turkey. We use volatility predicted from GARCH models for both nominal and real effective exchange rate data. To detect the long-term relationship we use the autoregressive distributed lag (ARDL) bound testing approach, while for the short-term effects, Granger causality models are employed. The results show that, in the long term, there is no linkage between exchange rate volatility and international trade activities except for Turkey, and even in this case, the magnitude of the effect of volatility is quite small. In the short term, however, a significant causal relationship from volatility to import/export demand is detected for Indonesia and Mexico. In the case of Nigeria, unidirectional causality from export demand to volatility is found, while for Turkey, no causality between volatility and import/export demand is detected.
Rather than impeding trade, increased exchange rate uncertainty may on average create trade as it implies a higher probability that ex post deviations from Commodity Price Parity will exceed tariffs and transportation costs. We demonstrate such an effect in a small-country, short-term model, under the alternative assumptions of perfect competition and of a monopolist trader-producer. The proofs rely on the fact that such firms' exposures can be replicated (and hedged) by standard options. Under partial monopoly scenarios, the effect of volatility is ex ante unclear, though. (JEL F31)
This paper analyses the impact of exchange rate volatility on Australian trade flows. ARCH models are used to generate a measure of exchange rate volatility which is then tested in a model of Australian imports and exports. This paper differs from many of the papers previously published as special attention is given to the export and import trade data sets used. Not only is aggregate trade data tested for the effects of volatility, but disaggregate sectoral trade data is also analysed. Testing sectoral trade data allows us to detect whether the direction or magnitude of the impact of volatility differs depending on the nature of the market in which the goods are traded. If the effect of exchange rate volatility does differ by market, then testing aggregate trade data convolutes the true nature of the relationship and may prevent a significant relationship from being derived. The results obtained in this paper suggest that the impact of exchange rate volatility does differ between traded good sectors although it remains difficult to firmly establish the nature of the relationship.
One of the issues that have received considerable attention in the comparison of the properties of alternative exchange rate regimes is the effect of exchange rate risk on the volume of trade. It has been argued that the higher volatility of exchange rates witnessed since the adoption of the floating regime in 1973 has led to a decrease in international trade transactions. This is because most trade contracts are not for immediate delivery of goods; and since they are denominated in terms of the currency of either the importer or the exporter, unanticipated fluctuations in the exchange rate affect realized profits and hence the volume of trade. It is implicitly assumed that forward exchange markets that can help traders eliminate this type of variations in profits either are not available (as it is true for the majority of currencies because most are not fully convertible, thereby impairing forward markets) or for some reason they are not utilized to fully hedge exchange risk present in trade transactions.' The empirical evidence, regarding the effect of exchange rate risk on trade, has at best been inconclusive. The large majority of the empirical studies are unable to establish a systematically significant link between exchange rate variability and the volume of international trade whether on an aggregate or on a bilateral basis. Abrams [1], Akhtar and Hilton [2], Cushman [4; 5; 6] and Kenan and Rodrik [12] find some significant negative effects of exchange volatility on exports. However, Bailey, Tavlas, and Uhlan [3], Hooper and Kohlhagen [10] and an International Monetary Fund Study [11] do not find any supporting evidence for the depressing effect of exchange rate volatility on international trade. It is also interesting to note that, in many of these studies, a significant positive effect of exchange rate volatility on the volume of trade is found for some cases. However, the positive effect, believed to be at odds with the theory was either ignored or dismissed as a perverse result, since "as far as volumes are concerned, theoretical considerations
This paper explores the linkage between trade participation and productivity performance for a sample of Indian manufacturing firms over the period 1994–2006. We consider two yardsticks of productivity, namely Total Factor Productivity (TFP) and Labor Productivity for analysis purpose. As far as the labour productivity is concerned, the results indicate that exporters, importers and both way traders are more productive than others. Although, overall our results are somewhat mixed and indicate for a weak inter-link between trade and productivity, but the result appear to be more favourable for the export channel of trade as it clearly indicates that exporting leads to productivity improvement over time. There are also some statistical evidences to conclude that more productive firms self-select themselves in the exporting as well as importing market. The learning effects of importing on productivity growth turn out to be more favorable for labour productivity than TFP. Finally, the results clearly highlight the positive effect of R&D efforts of firms on labour productivity in the Indian manufacturing.
This article has two aims: first, review the related literature on the relationship among Foreign Direct Investment (FDI), Trade, and Economic Growth, and second, empirically examine the linkage between these variables. Our review of the literature indicates that despite a large volume of literature on the relationship among these variables, the direction of causality among them is far from over. Therefore, after observing a gap in the empirical literature, especially for developing economies, we investigate the linkage by using a Vector Autoregression (VAR) model applying the Ganger non-causality test of Toda and Yamamoto (1995) for the period 1991Q3 to 2006Q3. The evidence shows that there is bidirectional causality (two-way feedback) between FDI and economic growth. At the same time, there is also a unidirectional causality exists between exports and FDI, which runs from the former to the latter. Results of the test of causality between FDI and imports indicate the presence of a two-way feedback relationship between the variables.
As Brazil continues its emergence as a major world economy, it has enjoyed both increased trade and capital inflow-fueled currency appreciations. But while it is often thought that exchange-rate volatility hurts trade, the economic literature has found that this is not always true. This study examines bilateral export and import flows between the United States and Brazil from 1971 to 2010, using cointegration analysis to estimate the effects of this risk. This study arrives at three main conclusions. First, while the majority of industries are not affected by volatility in the long run, an unexpectedly large share of those that are affected responds positively to increased risk. Second, sensitivity to risk differs markedly by industry sector: Brazilian exports of agricultural products are particularly harmed, while U.S. machinery imports are not impacted at all. Finally, products with small trade shares more likely to respond to increased uncertainty than are major exporters.
This paper estimates the import demand elasticity for China using three fully efficient cointegrating regressions and the autoregressive distributed lag (ARDL) method. This paper is the first to accommodate the perception of global risk in an investigation of the information transmission mechanism between the relationship import demand and its determinants in China. The empirical results show that real imports are cointegrated with domestic economic activity, real effective exchange rate, and the perception of global risk. Domestic income is found to have a significantly positive effect on imports. Contrary to theory, the real effective exchange rate carries negative coefficients, which suggests that a decrease in external competitiveness (appreciation) will decrease the level of imports in the case of China. One of the reasons for this may be the tied anti-dumping duty on some import items. Since the perception of global risk adversely affects China's aggregated imports, policy-makers should consider the degree to which the perception of global risk affects the implementation of trade policies.
The impact of exchange rate volatility on trade flows continues to occupy the international finance literature. More recent studies have deviated from the traditional approach of using aggregate trade flows and have employed trade data at commodity level. This study investigates the impact of exchange rate uncertainty on the trade flows of 118 US exporting industries to Thailand and 41 US importing industries from Thailand. We find that exchange rate uncertainty has short-run effects on the trade flows of most industries. In the long-run, the main determinants of the trade flows are the level of economic activity in both countries.
This paper investigates empirically the impact of exchange rate volatility on the trade flows of six countries over the quarterly period of 1980–2005. The impact of a volatility term on trade is examined by using an Engle-Granger residual-based cointegrating technique. The major results show that increases in the volatility of the real exchange rate, approximating exchange-rate uncertainty, exert a significant negative effect on trade for South Korea, Pakistan, Poland and South Africa and a positive effect for Turkey and Hungary in the long run.
Currency unions Their dramatic effect on international trade
A gravity model is used to assess the separate effects of exchange rate volatility and currency unions on international trade. The panel data, bilateral observations for five years during 1970–90 covering 186 countries, includes 300+ observations in which both countries use the same currency. I find a large positive effect of a currency union on international trade, and a small negative effect of exchange rate volatility, even after controlling for a host of features, including the endogenous nature of the exchange rate regime. These effects, statistically significant, imply that two countries sharing the same currency trade three times as much as they would with different currencies. Currency unions like the European EMU may thus lead to a large increase in international trade, with all that that entails.
— Andrew Rose
The growth rate of international trade among industrial countries has declined by more than half since the inception of floating exchange rates. To explain the slowdown, the effects of exchange rate volatility are separated from those of other shocks since 1973--in particular, changes in oil prices and in trade regimes. The paper focuses on the effects of exchange rate variability with lags longer than a few months or quarters.
A recent survey of the empirical studies examining the effects of exchange rate volatility on international trade concluded that "the large majority of empirical studies... are unable to establish a systematically significant link between measured exchange rate variability and the volume of international trade, whether on an aggregated or on a bilateral basis" (International Monetary Fund, Exchange Rate Volatility and World Trade, Washington, July 1984, p. 36). A recent paper by M.A. Akhtar and R.S. Hilton ("Exchange Rate Uncertainty and International Trade," Federal Reserve Bank of New York, May 1984), in contrast, suggests that exchange rate volatility, as measured by the standard deviation of indices of nominal effective exchange rates, has had significant adverse effects on the trade in manufactures of the United States and the Federal Republic of Germany. The purpose of the present study is to test the robustness of Akhtar and Hilton's empirical results, with their basic theoretical framework taken as given. The study extends their analysis to include France, Japan, and the United Kingdom; it then examines the robustness of the results with respect to changes in the choice of sample period, volatility measure, and estimation techniques. The main conclusion of the analysis is that the methodology of Akhtar and Hilton fails to establish a systematically significant link between exchange rate volatility and the volume of international trade. This is not to say that significant adverse effects cannot be detected in individual cases, but rather that, viewed in the large, the results tend to be insignificant or unstable. Specifically, the results suggest that straightforward application of Akhtar and Hilton's methodology to three additional countries (France, Japan, and the United Kingdom) yields mixed results; that their methodology seems to be flawed in several respects, and that correction for such flaws has the effect of weakening their conclusions; that the estimates are quite sensitive to fairly minor variations in methodology; and that "revised" estimates for the five countries do not, for the most part, support the hypothesis that exchange rate volatility has had a systematically adverse effect on trade. /// Un récent aperçu des études empiriques consacrées aux effets de l'instabilité des taux de change sur le commerce international conclut que "dans leur grande majorité, les études empiriques... ne réussissent pas à établir un lien significatif et systématique entre la variabilité mesurée des taux de change et le volume du commerce international, que celui-ci soit exprimé sous forme globale ou bilatérale" (Fonds monétaire international, Exchange Rate Volatility and World Trade, Washington, juillet 1984, page 36). Par contre, un article publié récemment par M.A. Akhtar et R.S. Hilton ("Exchange Rate Uncertainty and International Trade", Federal Reserve Bank of New York, mai 1984) soutient que l'instabilité des taux de change, mesurée par l'écart type des indices des taux de change effectifs nominaux, a eu un effet défavorable significatif sur le commerce de produits manufacturés des Etats-Unis et de la République fédérale d'Allemagne. La présente étude a pour objet d'évaluer la solidité des résultats empiriques présentés par Akhtar et Hilton, en prenant comme donné leur cadre théorique de base. L'auteur étend l'analyse au cas de la France, du Japon et du Royaume-Uni; elle cherche ensuite dans quelle mesure ces résultats restent valables si l'on modifie la période de référence, la mesure de l'instabilité et les techniques d'estimation. La principale conclusion de cette étude est que la méthode utilisée par Akhtar et Hilton n'établit pas de lien significatif et systématique entre l'instabilité des taux de change et le volume du commerce international. Ceci ne veut pas dire que l'on ne puisse pas constater dans certains cas particuliers des effets défavorables significatifs, mais plutôt que, pris dans leur ensemble, les résultats sont peu significatifs ou peu stables. Plus précisément, cette étude laisse entendre qu'une application systématique de la méthode d'Akhtar et Hilton à trois pays supplémentaires (France, Japon et Royaume-Uni) donne des résultats mitigés; que leur méthode semble présenter plusieurs défauts et que la correction de ces défauts a pour effet d'affaiblir la portée de leurs conclusions; que leurs estimations sont très sensibles à des variations relativement mineures de la méthode utilisée et que la plupart des estimations "révisées" pour les cinq pays ne confirment pas l'hypothèse selon laquelle l'instabilité des taux de change aurait eu un effet systématiquement négatif sur le commerce international. /// En un examen reciente de los estudios empÃricos sobre los efectos de la inestabilidad de los tipos de cambio en el comercio internacional se llega a la conclusión de que "la gran mayorÃa de estos análisis empÃricos no consiguen demostrar sistemáticamente un vÃnculo significativo entre los diferentes grados de variabilidad cambiaria y el volumen del comercio internacional, tanto sea en términos agregados como bilaterales". (Fondo Monetario Internacional, Exchange Rate Volatility and World Trade, Washington, julio de 1984, pág. 36). Un estudio reciente de M.A. Akhtar y R.S. Hilton ("Exchange Rate Uncertainty and International Trade," Banco de la Reserva Federal de Nueva York, mayo de 1984) indica, por el contrario, que la inestabilidad de los tipos de cambio, expresada según la desviación estándar de los Ãndices de los tipos de cambio efectivos nominales, ha tenido efectos negativos considerables en el comercio de productos manufacturados de Estados Unidos y de la República Federal de Alemania. El presente estudio tiene por objeto comprobar la solidez de los resultados empÃricos de Akhtar y Hilton, tomando como base de partida su marco teórico básico. El estudio amplÃa su análisis incluyendo a Francia, Japón y el Reino Unido, pasando luego a examinar la solidez de los resultados con respecto a variaciones en la selección del perÃodo de la muestra, medida de la inestabilidad y técnicas de estimación. La conclusión principal del análisis es que la metodologÃa de Akhtar y Hilton no logra establecer un vÃnculo significativo sistemático entre la inestabilidad de los tipos de cambio y el volumen del comercio internacional. Esto no quiere decir que no puedan obsevarse en casos especÃficos efectos negativos importantes, sino más bien que, en términos generales, los resultados no suelen ser ni considerables ni estables. En concreto, de los resultados se desprende que la aplicación directa de la metodologÃa de Akhtar y Hilton a tres nuevos paÃses (Francia, Japón y el Reino Unido) arroja resultados dispares; que esta metodologÃa parece ser defectuosa en varios aspectos y que la corrección de tales deficiencias tiene como efecto el debilitamiento de sus conclusiones; que las estimaciones son muy sensibles a modificaciones poco importantes de la metodologÃa, y que las estimaciones "revisadas" para los cinco paÃses no confirman, en su mayor parte, la hipotésis de que la inestabilidad de los tipos de cambio ha ejercido un efecto negativo sistemático en el comercio exterior.
We show that variables pointed to by the theory of optimum currency areas (OCAs) help to explain patterns of exchange rate variability and intervention across countries. But OCA considerations affect exchange market pressures and intervention in different ways. Exchange market pressures mainly reflect asymmetric shocks, while intervention largely reflects the variables that OCA theory suggests cause countries to value stable exchange rates (small size and the extent of trade links). Intervention and exchange market pressure also vary with the structure of the international monetary system.
This paper analyses the impact of exchange rate volatility on Australian trade flows. ARCH models are used to generate a measure of exchange rate volatility which is then tested in a model of Australian imports and exports. This paper differs from many of the papers previously published as special attention is given to the export and import trade data sets used. Not only is aggregate trade data tested for the effects of volatility, but disaggregate sectoral trade data is also analysed. Testing sectoral trade data allows us to detect whether the direction or magnitude of the impact of volatility differs depending on the nature of the market in which the goods are traded. If the effect of exchange rate volatility does differ by market, then testing aggregate trade data convolutes the true nature of the relationship and may prevent a significant relationship from being derived. The results obtained in this paper suggest that the impact of exchange rate volatility does differ between traded good sectors although it remains difficult to firmly establish the nature of the relationship.
This paper develops a theoretically consistent specification of the aggregate import demand function under foreign exchange rationing. Empirical results for Bangladesh using Johansen-Juselius cointegration illustrate the problem of near-identity in the standard specification and superiority of the new specification.
This paper analyses the effect of exchange rate volatility on Germany-US bilateral trade flows for the period 1973:4–1992:9. ARCH models are used to generate a measure of exchange rate volatility and are then tested against Germany's exports to, and imports from, the US. This paper differs from many papers previously published as the effects of volatility are found to be positive and statistically significant for the period under review. The debate over the use of real or nominal exchange rate data in the derivation of volatility estimation is also addressed.
The West African Monetary Union, during the period of this study, 1976–1982, comprised six countries — Benin, Burkina Faso, Côte d'Ivoire, Niger, Senegal, and Togo. Since their common currency, the CFA franc, has been pegged to the French franc at an unchanged rate since 1948, the entire nominal exchange rate variability that traders in the region face is due to movements in the French franc with respect to other currencies. In the face of exchange rate risk that is not always coverable, trade should be adversely affected. Using three measures of variability in the nominal effective exchange rate index, this paper finds that exchange rate variability has not affected the Union's real imports, or the diversification of trade away from the franc zone.
What is the effect of nominal exchange rate variability on trade? I argue that the methods conventionally used to answer this perennial question are plagued by a variety of sources of systematic bias. I propose a novel approach that simultaneously addresses all of these biases, and present new estimates from a broad sample of countries from 1970 to 1997. The estimates indicate that nominal exchange rate variability has no significant impact on trade flows.
A puzzle in empirical international finance is the difficulty in finding a large and negative effect of exchange rate volatility on international trade. A common explanation is the availability of hedging instruments. This paper examines the empirical validity of this explanation using data on over 1000 country pairs. Which countries have currency hedging instruments is not perfectly observable. This paper deals with the problem by specifying an endogenous regime-switching regression. There are two main findings. First, there is no evidence in the data to support the validity of the hedging hypothesis. Second, for country pairs with large trade potential, exchange rate volatility deters goods trade to an extent much larger than that typically has been documented in the literature (without using the switching regression specification).
By specifying a model of differential risk-bearing by import demand and export supply sides of the market for traded goods, the theoretical impact of exchange risk on both equilibrium prices and quantities is analyzed. For several empirical cases of 1965–1975 U.S. and German trade it is found that exchange rate uncertainty has had a significant impact on prices but no significant effect on the volume of trade. These price effects support previous survey results on the currency denomination of export contracts, namely that with the exception of some U.S. imports, most trade is largely denominated in the exporter's currency.
This study uses a GARCH (Generalized Autoregressive Conditional Heteroskedasticity) model to test if real exchange rate volatility has an adverse effect on the value of U.S. imports from Canada. We find that exchange rate uncertainty has a negative and statistically significant affect on trade flows.
This paper examines whether importing intermediate goods improves plant performance. While addressing the issue of simultaneous productivity shocks and decisions to import intermediates, we estimate the impact foreign intermediates have on plants' productivity using plant-level Chilean manufacturing panel data. Across different estimators, we find evidence that becoming an importer of foreign intermediates improves productivity.
Rather than impeding trade, increased exchange rate uncertainty may on average create trade as it implies a higher probability that ex post deviations from Commodity Price Parity will exceed tariffs and transportation costs. We demonstrate such an effect in a small-country, short-term model, under the alternative assumptions of perfect competition and of a monopolist trader-producer. The proofs rely on the fact that such firms' exposures can be replicated (and hedged) by standard options. Under partial monopoly scenarios, the effect of volatility is ex ante unclear, though. (JEL F31)
This paper presents specification tests that are applicable after estimating a dynamic model from panel data by the generalized
method of moments (GMM), and studies the practical performance of these procedures using both generated and real data. Our
GMM estimator optimally exploits all the linear moment restrictions that follow from the assumption of no serial correlation
in the errors, in an equation which contains individual effects, lagged dependent variables and no strictly exogenous variables.
We propose a test of serial correlation based on the GMM residuals and compare this with Sargan tests of over-identifying
restrictions and Hausman specification tests.
Excessive fluctuations in exchange rates often influence trade flows. Theoretically, increased uncertainty may increase or decrease the volume of trade, or leave it unchanged. Using annual export and import data for 102 industries from 1962 to 2004, we analyze both the short- and long-term effects of volatility in the peso/dollar real exchange rate on Mexican trade with the United States. We also investigate the effects of the North American Free Trade Agreement (NAFTA) on this relationship. We find that increased volatility has short-term effects on the trade flows of most industries but that the long-term effects are significant (positive or negative) for only one-third of industries. Most of the significant effects are negative rather than positive.
'Financial Reform and Economic Development in China represents a rigorous yet readable account of financial market liberalization in China.'- Bryane Michael, China Information China's prospects of successfully completing the transition to a market economy and becoming the world's largest economy during the 21st century depend on the future sustainability of high rates of economic growth. © James Laurenceson and Joseph C.H. Chai 2003. All rights reserved.
A firm's entry and exit decisions when the output price follows a random walk are examined. An idle firm and an active firm are viewed as assets that are call options on each other. The solution is a pair of trigger prices for entry and exit. The entry trigger exceeds the variable cost plus the interest on the entry cost, and the exit trigger is less than the variable cost minus the interest on the exit cost. These gaps produce "hysteresis." Numerical solutions are obtained for several parameter values; hysteresis is found to be significant even with small sunk costs. Copyright 1989 by University of Chicago Press.
In a world with two similar, developed economies, economic integration can cause a permanent increase in the worldwide rate
of growth. Starting from a position of isolation, closer integration can be achieved by increasing trade in goods or by increasing
flows of ideas. We consider two models with different specifications of the research and development sector that is the source
of growth. Either form of integration can increase the long-run rate of growth if it encourages the worldwide exploitation
of increasing returns to scale in the research and development sector.
This paper presents a theoretical basis for the argument that large exchange rate shocks—such as the 1980s dollar cycle—may
have persistent effects on trade flows and the equilibrium exchange rate itself. We begin with a partial-equilibrium model
in which large exchange rate fluctuations lead to entry or exit decisions that are not reversed when the currency returns
to its previous level. Then we develop a simple model of the feedback from hysteresis in trade to the exchange rate itself.
Here we see that a large capital inflow, which leads to an initial appreciation, can result in a persistent reduction in the
exchange rate consistent with trade balance.