Trade Balance and the J-Curve Phenomenon in Malawi

The effects of successive currency devaluations, since the 1980s, on Malawi's trade balance are analysed. The major hypothesis tested is that currency devaluation leads to an improvement in trade balance through changes in the real exchange rate. This hypothesis is not supported by the data for Malawi. Although there is evidence of a lagged adjustment yielding an improvement in the trade balance three years after devaluation, the magnitude of this improvement is insufficient to overcome the initial decline in the trade balance following devaluation. The extent of improvement is not consistent with that implied by the hypothesized J-curve effect. The analysis suggests that a one percent rise in real domestic income results in 0.5 per cent per reduction in the trade balance, whereas changes in real foreign income do not appear to have any effect on the trade balance. The lack of responsiveness of Malawi's trade balance to changes in foreign income may be associated with the unmanufactured nature of Malawi's export commodities and the relatively unfavorable market conditions for these exports in the major importing western countries. Other policy measures than those that have been relied on to date are evidently necessary for the desired improvements in trade balance to be achieved.