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Nonlinearity between RER and Trade Balance: A Case Study of Pakistan

Author

Listed:
  • Qayyum, Abdul
  • Nazir, Sidra
  • Jawad, Muhammad

Abstract

Exchange rate is an important factor to bring change in trade balance of any country. In this study the true relationship that is nonlinear; have been examined empirically between trade balance and real exchange rate for Pakistan vs USA. By using monthly data (1980m1 to 2014m2) linear and nonlinear models are estimated by using Johansen cointegration technique (1988). The negative sign of RER2 confirms the nonlinear relationship in case of bilateral trade between these two countries. Existence J-curve in case of Pakistan has been confirmed by long run and short run results, as in long run exchange rate improves the trade balance but in short run it depreciated Hussain and Bashir (2013) and Magee (1973). Finally the nonlinear model showed better forecast performance examined by RMSE and MAE.

Suggested Citation

  • Qayyum, Abdul & Nazir, Sidra & Jawad, Muhammad, 2016. "Nonlinearity between RER and Trade Balance: A Case Study of Pakistan," MPRA Paper 72589, University Library of Munich, Germany.
    • Handle: RePEc:pra:mprapa:72589
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    References listed on IDEAS

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    1. Mon-Li Lin & Tze-Wei Fu, 2015. "Nonlinear Effect of Exchange Rates on Trade Balance: A Recommendation for Emerging Countries’ Exchange Rate Policy," International Journal of Economics and Financial Research, Academic Research Publishing Group, vol. 1(6), pages 90-96, 09-2015.
    2. Stephen P. Magee, 1973. "Currency Contracts, Pass-Through, and Devaluation," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 4(1), pages 303-325.
    3. Chinn, Menzie David, 1991. "Some linear and nonlinear thoughts on exchange rates," Journal of International Money and Finance, Elsevier, vol. 10(2), pages 214-230, June.
    4. Johansen, Soren, 1988. "Statistical analysis of cointegration vectors," Journal of Economic Dynamics and Control, Elsevier, vol. 12(2-3), pages 231-254.
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    More about this item

    Keywords

    Exchange Rate; Trade Balance; Non-Linear Model; Cointegration; J-Curve;
    All these keywords.

    JEL classification:

    • C4 - Mathematical and Quantitative Methods - - Econometric and Statistical Methods: Special Topics
    • F1 - International Economics - - Trade
    • F31 - International Economics - - International Finance - - - Foreign Exchange

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