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Impact and sources of exchange rate exchange rate volatility: The case of Sub-Saharan African countries
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The objective of this paper has been to investigate the impact of exchange rate volatility on trade in the context of exports, imports, and the trade balance in West Africa. Applying the pooled Ordinary Least Square, the fixed effects, and the random effect models, and obtaining robust estimates for export and trade balance models by employing xtgls, panels (correlated) Corr (ar1), and adopting xtscc, fe regression with Driscoll-Kraay standard error to estimate the import model. The empirical results show that the impact of exchange rate volatility on exports and imports is insignificant. However, the result of the trade balance model shows a positive and significant link between exchange rate volatility and the trade balance. Thus, suggesting that traders tend to engage more in export activities with an increase in exchange rate volatility. Also, the analysis suggests that depreciation of the real exchange rate will lead to a decrease in exports. Thereby, confirming the limited production capability and heavy reliance on imported goods and services. Hence, this study recommends diversification of production activities and adopting strategies aiming at reducing dependence on imported goods and services. The empirical result shows a positive association between an increase in domestic economic activities of trading partners and exports of the West African countries. This implies that West African countries must engage in trade with countries that have a high economic growth rate. The result also shows a positive link between inflation rate and imports. This suggests the implementation of effective monetary policies geared towards controlling inflation.
The effect of devaluations on economies is one of the most controversial macroeconomic policies in Sub-Saharan Africa (SSA), both theoretically and empirically. This study uses panel data from 1995-2013 for 17 SSA countries and 17 non-Euro OECD economies. The main conclusion is that exchange rates devaluations and revaluations are an effective policy instrument in improving trade balances and boosting real output in both regions. There are some similarities in the results between the two groups of nations but also many differences, which are indicated in detail in the text. For example, regarding the estimation of trade balances directly, the income effects (own GDP and foreign GDP) and the exchange rates effect seem to be more important in the case of SSA group than in the case of the OECD group. There are also some policy implications. Thus, governments in SSA nations are encouraged to further pursue both exchange rates and monetary or fiscal policies; and as they develop their industries, they may rely more and more on floating exchange rates.
The fluctuations of the exchange rate of the domestic currency have been a major concern. Since the 1970’s there has been a debate on the relationship between exchange rate volatility and export flows. In the wake of the recent global financial crisis and rising food prices, this debate has become even more strident and the concerns even more palpable. South Africa has not escaped the debate. The exchange rate of the South African Rand has been undergoing a series of devaluations for several decades. In such a situation, exporters must contend with some exchange rate volatility which might have implications for export flows. However, in the absence of systematic study, neither the magnitude of the fluctuations nor their impacts is known with certainty and this presents immense policy difficulties. This paper seeks to provide answers to the most commonly asked question as to the magnitude and extent of such fluctuations and their precise impacts on export levels and the market shares of South African citrus exports in the destination markets around the world. The principal objective it to estimate the impact of exchange rate volatility on the competitiveness of South Africa’s agricultural exports. The paper reviews the theoretical literature in respect to foreign exchange market, Balance of Payments, exchange rate models and the evidence from monetarists and the Purchasing Power Parity. Laspeyres-indexed export prices, exchange rates and export volumes for maize, oranges, sugar, apples, grapes, pears, avocados, pineapples, apricots and peaches for the period 1980-2008 and exports to the European Union are modeled by means of ARIMA (AR) and Autoregressive Conditional Heteroscedasticity (ARCH) and export demand equation estimated. The Constant Market Share (CMS) model was applied to assess the extent to which the SA citrus industry has maintained its competitive advantage in several markets. The overall results obtained strongly confirm that exchange rate volatility have a positive impact on the competitiveness of South Africa’s agricultural exports and that, despite the on-going financial crisis that has engulfed the world, South Africa’s citrus exports have maintained a healthy market share. This result is surprising but understandable in the light of the special arrangements put in place by South Africa’s monetary authorities to protect the Rand from over-exposure to global financial developments over the period under review. The important practical implications of these findings for the success of the agricultural restructuring programmes going on in South Africa are evaluated and discussed against the backdrop of the fresh debates on national economic policy management in the wake of financial meltdown that has once again threatened the financial stability of virtually every region in the world in recent years.
In this article, the authors examine the relationship between the volatility in exchange rates and the volume of international trade in sub-Saharan African countries. Using the gravity equation and annual data for the period 1998–2007, they find a statistically significant and negative correlation between the volatility in exchange rates and the volume of trade. The estimated elasticities show that the responsiveness of the flow of international trade to changes in exchange rate volatility is very small. This suggests that eliminating the volatility in the exchange rates will result in only small increments in the volume of trade. Accordingly, pursuing a policy of exchange rate stability would not be sufficient to significantly increase the volume of bilateral trade in the sub-Saharan African region.
The paper investigates the impact of exchange rate volatility on trade in 40 selected sub-Saharan African countries for the period 1986-2005. The study employs a gravity model with pooled ordinary least square (POLS) allowing for fixed effect and panel Generalized Method of Moments (GMM) techniques. The results of the analysis show that the net effect of exchange rate volatility on aggregate trade was positive using the two approaches. In the way the results show that there is not much difference between the impact of ex-change rate volatility on primary and manufactured trade as well as between ECOWAS and non-ECOWAS countries. However, the results should be interpreted with caution as the history of exchange rate volatility is still relatively young compared with the developed countries.
For a large panel of 56 developed and developing countries spanning the period 1980 to 2004, we examine whether privatization had an impact on economic growth. We characterize privatization along two dimensions: The extent of privatization efforts (proceeds) that proxy for the size of the program, and the method of privatization that proxy for government commitment. In order to take into account the dynamics of privatization and tackle potential endogeneity issues, we use a dynamic panel approach and find that privatization has a robust systematic positive effect on economic growth, after controlling for classic growth determinants as well as institutional variables. We also find that the method of privatization, through share issues on the stock market, is positively related to economic growth suggesting that one potential channel of benefit is indeed to use the stock market to divest state-owned enterprises (SOEs hereafter).
This paper empirically re-examines the impact of real exchange rate volatility on South Africa's export flows to the United States for the period 1992:1 – 2004:4 using the two-country model of international trade. The exponential generalised autoregressive conditional heteroscedasticity (EGARCH) model is used to measure real exchange rate volatility. Cointegration and error-correction models are used to obtain the estimates of the cointegrating relations and the short-run dynamics, respectively. Further, variance decomposition analysis is used to show the dynamic adjustments of real exports to shocks in the fundamentals and the proportion thereof. The results obtained in this paper summarily provide evidence that real exchange rate volatility has a negative effect on real exports.
This paper uses a combination of growth accounting and regression analysis to examine economic growth experiences of 88 developing and industrial economies over the period 1960-1992. The decomposition shows that increases in total factor productivity (TFP) have been surprisingly small in developing countries, and that accumulation of physical and human capital account for most of the growth per worker. This reinforces a finding of some previous authors, but for a much larger sample of countries. Further, the fact that countries with high rates of factor accumulation do not have unusually high rates of TFP growth provides little support for the new endogenous growth theories. Our analysis also uncovers significant difficulties with the use of investment rates and school enrollment rates as proxies for capital accumulation, highlighting a reason why some previous studies have understated the importance of accumulation. Our regression results strongly support the growing consensus that stable, orthodox macroeconomic policy, combined with outward oriented trade policies foster economic growth. We explore the channels through which determinants of growth operate. Among other findings, we show that larger budget deficits slow growth through reducing capital accumulation, while real exchange rate volatility operates mainly through slowing TFP growth. Outward orientation appears to work through both channels.
This paper offers empirical evidence that a country's choice of exchange rate regime can have a signifficant impact on its medium-term rate of productivity growth. Moreover, the impact depends critically on the country's level of financial development, its degree of market regulation, and its distance from the global technology frontier. We illustrate how each of these channels may operate in a simple stylized growth model in which real exchange rate uncertainty exacerbates the negative investment e¤ects of domestic credit market constraints. The empirical analysis is based on an 83 country data set spanning the years 1960-2000. Our approach delivers results that are in striking contrast to the vast existing empirical exchange rate literature, which largely finds the effects of exchange rate volatility on real activity to be relatively small and insignificant.
This article investigates empirically the impact of real exchange-rate volatility on the export flows of 13 less developed countries (LDCs) over the quarterly period 1973-1996. Estimates of the cointegrating relations are obtained using Johansen's multivariate procedure. Estimates of the short-run dynamics are obtained for each country using the error-correction technique. The major results show that increases in the volatility of the real effective exchange rate, approximating exchange-rate uncertainty, exert a significant negative effect on export demand in both the short-run and the long-run in each of the 13 LDCs. These effects may result in significant reallocation of resources by market participants.
We study the relationship between exchange rate regimes and economic growth for a sample of 183 countries over the post-Bretton Woods period , using a new de facto classification of regimes based on the actual behavior of the relevant macroeconomic variables. In contrast with previous studies, we find that, for developing countries, less flexible exchange rate regimes are associated with slower growth, as well as with greater output volatility. For industrial countries, regimes do not appear to have any significant impact on growth. The results are robust to endogeneity corrections and a number of alternative specifications borrowed from the growth literature.
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
This article develops a framework for efficient IV estimators of random effects models with information in levels which can accommodate predetermined variables. Our formulation clarifies the relationship between the existing estimators and the role of transformations in panel data models. We characterize the valid transformations for relevant models and show that optimal estimators are invariant to the transformation used to remove individual effects. We present an alternative transformation for models with predetermined instruments which preserves the orthogonality among the errors. Finally, we consider models with predetermined variables that have constant correlation with the effects and illustrate their importance with simulations.
The sectoral shifts hypothesis, advanced by Lilien (1982) and Davis (1987), suggests that unemployment is, in part, the result of resources being reallocated from declining to expanding sectors of the economy. Using U.S. data from 1931 to 1987, we test this hypothesis by constructing an index measuring the dispersion among stock prices from different industries. We find that lagged values of this index significantly affect unemployment. We show that the stock market dispersion index is less contaminated by aggregate demand influences than Lilien's employment dispersion index, which makes our test less vulnerable to the Abraham and Katz (1986) critique.
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.
Estimation of the dynamic error components model is considered using two alternative linear estimators that are designed to improve the properties of the standard first-differenced GMM estimator. Both estimators require restrictions on the initial conditions process. Asymptotic efficiency comparisons and Monte Carlo simulations for the simple AR(1) model demonstrate the dramatic improvement in performance of the proposed estimators compared to the usual first-differenced GMM estimator, and compared to non-linear GMM. The importance of these results is illustrated in an application to the estimation of a labour demand model using company panel data.
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.
Summary This paper examines the effects of financial and trade liberalization on growth volatility of real output and consumption in Africa. Our results suggest trade liberalization is associated with greater output and consumption growth volatility while financial liberalization increases the efficacy of consumption smoothing and stabilizes income and consumption growth. In addition, we find financial market depth and institutional quality operate jointly with trade and financial openness to reduce volatility in output and consumption growth. There is also evidence that good institutions which foster low inflation levels and volatility promote consumption and output growth stability.
Existing empirical evidence suggests that the Uncovered Interest Rate Parity (UIRP) condition may not hold due to an exchange risk premium. For a panel data set of eleven emerging European economies we decompose this exchange risk premium into an idiosyncratic (country-specific) elements and a common factor using a principal components approach. We present evidence of a stationary idiosyncratic component and nonstationary common factor. This result leads to the conclusion of a nonstationary risk premium for these countries and a violation of the UIRP in the long-run, which is in contrast to previous studies often documenting a stationary premium in developed countries. Furthermore, we report that the variation in the premium is largely attributable to a common factor influenced by economic developments in the United States.
As memories of the East Asian crises of 1997-1998 recede, attention has shifted back to the traditional problems of macroeconomic management in a small open economy. A key question, in this regard, is the appropriate choice of exchange rate regime. While the East Asian crises cased some disenchantment wit pegging in the region, historical experience suggests that the appeal of pegging is very strong in many emerging markets. To shed some light on the relative merits of pegging in East Asia we briefly discuss what the recent literature ahe to say on this question. We then review the experience of the region over the period 1974-1999.
Unpredictable fluctuations in the exchange rate can increase the uncertainty that suppliers face in overseas markets if contracts are written in foreign currency. There is an extensive literature on how the volatility of exchange rates can affect trade patterns. In this paper, the author does two things. First he examines how exchange rate uncertainty can affect both the supply of and demand for exports. He then uses a generalized ARCH process to represent the volatility of the exchange rate. Our results suggest that exchange rate volatility does have a role to play in explaining the supply of exports but does not have a significant effect on the demand for exports. However, the effect, though significant statistically, is small. Copyright 1995 by Scottish Economic Society.
This paper discusses the profound difficulties of maintaining fixed exchange rates in a world of expanding global capital markets. Contrary to popular wisdom, industrialized-country monetary authorities easily have the resources to defend exchange parities against virtually any private speculative attack. But if their commitment to use those resources lacks credibility with markets, the costs to the broader economy of defending an exchange-rate peg can be very high. The dynamic interplay between credibility and commitment is illustrated by the 1992 Swedish and British crises and the 1994-95 Mexican collapse. The authors also discuss the small number of successful fixers. Copyright 1995 by American Economic Association.
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