International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), INTERNATIONAL JOURNAL OF MANAGEMENT (IJM) Volume

e 4, Issue 6, November - December (2013)

ISSN 0976-6502 (Print) ISSN 0976-6510 (Online) Volume 4, Issue 6, November - December (2013), pp. 159-164 IAEME: www.iaeme.com/ijm.asp Journal Impact Factor (2013): 6.9071 (Calculated by GISI) www.jifactor.com

IJM
IAEME

LIAISON BETWEEN EXCHANGE RATE AND TRADE BALANCE: AN EMPIRICAL STUDY ON INDIA
Soniya Mohil Research Scholar, IMSAR, M D University, Rohatk

ABSTRACT This paper is an attempt to find out the relationship between exchange rate and trade balance of India with the help of linear regression model and statistical tool by collecting data from RBI press releases, planning commission of India and NSE website over the period of five years (i.e. Aug 2008 to Aug 2013). The first section of the paper which is introductory in nature helps the readers to know about the key variables to be considered for the study. Basic terms related to exchange rate and trade balance will also be a part of the first section. The second section is the study of literature. The remaining part of the paper is covering objectives and research methodology (section 3 and 4), analysis and interpretation (section5) and section 6 concludes the paper leading towards the recommendations and references. Keywords: Exchange rate, Exchange rate regime, Currency devaluation, Trade balance, Economic variables & Indian economy etc. PREFACE Exchange rate is the number of domestic currency to be given in order to get one unit of foreign currency. Higher the exchange rate lower is the value of domestic currency. It is a crucial factor having significant impact on the trade balance particularly of those countries with unified exchange rate system (e.g. India). Unified exchange rate system is a type of the exchange rate regime where government of a country allow the market forces determine the exchange rate of its country conditioned by some interventions of the central bank (for example Reserve Bank of India) relying on the situations. Trade balance also termed as net exports is the difference between exports and imports in the monetary term and computed in the currency of that economy. If exports are higher than imports than a country is said to have trade surplus and opposite is expressed as trade deficit. Every economy has the requisite to carry a trade surplus if it wants to be called a strong economy. But the trade balance is influenced by so many aspects which are prevailing in the environment. The economic scenario is very volatile and taking different shapes every day especially after the crisis of
159

International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), Volume 4, Issue 6, November - December (2013)

2008. The degree of this impact varies as per the domestic and international economic variables. The economical forces are contracting and expanding in the blink of eyes. The major economic features in this context are domestic savings, industrial development, inflation, foreign exchange reserves, and regulatory norms of the government related to tax restrictions and tariff barriers. But due to the limitation only four variables are chosen for the analyses which are mentioned below:1. 2. 3. 4. Exchange Rate Imports Exports Trade Balance

REVIEW OF LITERATURE In the history, the study of relationship between trade balance and exchange rate has sought increased attention with the passage of time. Normally J-curve or Granger Causality test have been used for the analysis and relationship has been found between them with varied degree as per the study. Shin and Smith, 1996 reported a significant long-run relationship between the trade balance and the exchange rate. They explored that real depreciation of the US dollar had a favorable effect on the trade balance of US. Baharumshah, 2001 employed an unrestricted VAR model for the bilateral trade balances of Thailand and Malaysia with the United States and Japan for the period 1980 to 1996. He found support for a stable and positive long-run relationship between trade balance and the exchange rate. Ng Yuen-Ling and Har Wai-Mun, 2008 analyzed relationship between the real exchange rate and trade balance in Malaysia from year 1955 to 2006. The main findings of their paper were that long run relationship exists between trade balance and exchange rate and real exchange rate is an important variable to the trade balance, and devaluation will improve trade balance in the long run. Anubha Dhasmana, 2012 studied the relationship between Indias real exchange rate and its trade balance using quarterly trade data for 15 countries and explored that real exchange rate depreciation is positively associated with the trade balance in the long run. At the same time real exchange rate volatility is negatively correlated with Indias trade balance in the long run. Keshab R. Bhattarai and Mark Armahy, 2013 examined the effects of exchange rates on the trade balance of Ghana. They estimated the trade balance as a function of the real exchange rate, domestic and foreign incomes and found a stable long run relationship between both exports and imports and the real exchange rate with the help of co-integration analyses. They suggested that for improved balance of trade in Ghana, coordination between the exchange rate and demand management policies should be strengthened and be based on the long run fundamentals of the economy. CONSTRUCT OF THE STUDY Objective or research gap: The major objective of the study is to find out the impact exchange rate on trade balance. The sub objectives of the study are To find out the liaison between imports and exchange rate and the degree of dependence imports on exchange rate as well. To find out the liaison between exports and exchange rate and the degree of dependence exports on exchange rate as well. To find out the liaison between trade balance and exchange rate and the degree dependence of trade balance on exchange rate as well. Sample, data and methodology of of of of

160

International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), Volume 4, Issue 6, November - December (2013)

The present study adopts analytical and descriptive research design. Monthly time series data of export, import and trade balance is considered for the study. For exchange rate weighted average monthly data is taken in the form of time series. There were 61 observations in the time period i.e. August 2008 to August 2013. Secondary data has been collected from annual publications of Planning Commission of India, RBI and NSE. TOOLS FOR ANALYSIS Ratio Analysis: The financial ratios which have been used for comparative analysis of Indian banks are: Net NPAs (Net Non Performing Assets) and CAR (Capital Adequacy ratio) and ROA (Return on assets) where Net NPAs and CAR are risk indicators and ROA reflects the profitability of the banks. Correlation: Regression analysis has been used to know the quantum and cause of relationship. Analysis of Variance (ANOVA): The statistical tool Analysis of Variance (ANOVA) was applied in order to find out the existence of relationship between the chosen variables.

ANALYSIS AND INTERPRETATIONS Imports and Exchange Rate Ho: No significant relationship exists between exchange rate and imports in India. Ha: Significant relationship exists between exchange rate and imports in India. Table 1: Regression Statistics Observations 61 R Square Adjusted R Square Std. Error of the Estimate 0.173926185 0.159924934 9925.716751

Outlook: Table 1 is expressing the degree of relationship. Value of R square is 17.39% which tells that one percent change in one variable will be explained by 17.39% change in another variable. Table 2: Residual Statistics Coefficients Std. Error t-stat Constant EXR -19489.8 1018.187 14357.328 288.887 -1.357 3.525

Sig. 0.18 0.001

Outlook: Table 2 is giving us statistical coefficients for deriving our model and we can extract the following linear regression equation. IMP = -19489.8 + 1018.187 ER+ 14357.328* E where, IMP: Imports ER: Exchange Rate E: Error Term

161

International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), Volume 4, Issue 6, November - December (2013)

SS Regression 1223832219 Residual Total 5812671329 7036503548

Table 3: ANOVA df Mean Square 1 59 60 1223832219 98519853.03

Sig.

12.42219 0.000827

Outlook: Table 3 is explaining the presence of liaison between forecaster and dependent variables. The value of p (0.00827) is significantly less than 0.05 with 95% confidence level. So we reject the null hypothesis and accept the alternative hypothesis thus inference that there exist relationship between imports and exchange rate. Exports and Exchange Rate Ho: No significant relationship exists between exchange rate and exports in India. Ha: Significant relationship exists between exchange rate and exports in India. Table 4: Regression Statistics Observations 61 R Square Adjusted R Square Std. Error of the Estimate 0.098641739 0.08336448 13031.91947

Outlook: Table 4 is expressing the degree of relationship. Value of R square is 9.86% which tells that one percent change in one variable will be explained by 9.86% change in another variable. Table 5: Residual Statistics Coefficients Std. Error t-stat Constant EXR

Sig.

32064.96479 18850.38072 1.701024784 0.09420373 963.7909647 379.2933309 2.541017429 0.01370275

Outlook: Table 5 is giving us statistical coefficients for deriving our model and we can extract the following linear regression equation. EXP = -32064.9647 + 963.7909ER+ 18850.38072* E where, EXP: Exports ER: Exchange Rate E: Error Term Table 6: ANOVA df Mean Square 1 59 60 1096559149 169830925

SS Regression Residual Total 1096559149 10020024573 11116583722

Sig.

6.45677 0.013703

162

International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), Volume 4, Issue 6, November - December (2013)

Outlook: Table 6 is explaining the presence of liaison between forecaster and dependent variables. The value of p (0.013703) is significantly less than 0.05 with 95% confidence level. So we reject the null hypothesis and accept the alternative hypothesis thus inference that there exist relationship between exports and exchange rate. Trade Balance and Exchange Rate Ho: No significant relationship exists between exchange rate and trade balance in India. Ha: Significant relationship exists between exchange rate and trade balance in India. Table 7: Regression Statistics Observations 61 R Square Adjusted R Square Std. Error of the Estimate 0.123973455 0.109125547 4162.390497

Outlook: Table 7 is expressing the degree of relationship. Value of R square is 12.39% which tells that one percent change in one variable will be explained by 12.39% change in another variable. Table 8: Residual Statistics Coefficients Std. Error t-stat Constant EXR 5149.794245

Sig.

6020.804976 0.855333176 0.39582691

-350.0590945 121.1461566 2.889560052 0.00538911

Outlook: Table 8 is giving us statistical coefficients for deriving our model and we can extract the following linear regression equation. TRB = 5149.794245 -350.0590945ER+ 6020.804976* E where, TRB: Trade Balance ER: Exchange Rate E: Error Term Table 9: ANOVA df Mean Square 1 59 60 144660210.2 17325494.65

SS Regression 144660210.2 Residual Total 1022204184 1166864395

Sig.

8.349557 0.005389

Outlook: Table 9 is explaining the presence of liaison between forecaster and dependent variables. The value of p (0.005389) is significantly less than 0.05 with 95% confidence level. So we reject the null hypothesis and accept the alternative hypothesis thus inference that there exist relationship between trade balance and exchange rate.

163

International Journal of Management (IJM), ISSN 0976 6502(Print), ISSN 0976 - 6510(Online), Volume 4, Issue 6, November - December (2013)

CONCLUSIONS In the current year exchange rate of Indian Rupee has faced mammoth depreciation. In fact it crossed the number 60 in no time. This sudden decline was unbearable for the economical factors. Trade balance (which is considered to be imperative for economy) is also affected by the variations of exchange rate. As the trade balance is composition of exports and imports, individual liaison of imports and exports with exchange rate is equally important. We detect from this study the imports are chiefly impacted by exchange rate instead of exports which has lesser impact of exchange rate fluctuations. This is true on the fundamental views of economists and analysts also. This can be due the big impact on the pockets of importers as it is related to the affordability. So imports are more sensitive in comparison of exports. On the other hand trade balance impact is balanced by two variables some and how. Overall liaison between trade balance and exchange rate comes out to be strong. In extension to this study additional studies can be done on the following parameters: Period of the study could be enlarged Partial or multiple regression can be applied by taking some more variables which also have significant liaison with trade balance REFERENCES 1. Shin and Smith, 1996, Indias Real Exchange Rate and Trade Balance: Fresh Empirical Evidence, Indian Institute of Banglore, working paper no. 373 2. Rodriguez, Carlos A., 1980, "The Role of Trade Flows in Exchange Rate Determination: A Rational Expectations Approach." Discussion Paper no. 77-7813, Columbia Univ, Januar. 3. Baharumshah, 2001 The Effect of Exchange Rate on Bilateral Trade Balance: New Evidence from Malaysia and Thailand, Asian Economic Journal 15(3):291 - 312. DOI:10.1111/1467-8381.00135 4. Ng Yuen-Ling and Har Wai-Mun, 2008, Real Exchange Rate and Trade Balance Relationship: An Empirical Study on Malaysia, International Journal of Business and Management, Vol. 3, No. 8. 5. Anubha Dhasmana, 2012, Indias Real Exchange Rate and Trade Balance: Fresh Empirical Evidence, Indian Institute of Management Bangalore, Working Paper Number -373. 6. Keshab R. Bhattarai and Mark Armahy, 2013, The effects of exchange rate on the trade balance in Ghana: Evidence from co-integration analysis, African Journal of Business Management, Vol. 7(14), pp. 1126-1143. 7. Deepa H Kandpal and Khimya S Tinani, Inflationary Inventory Model under Trade Credit Subject to Supply Uncertainty, International Journal of Management (IJM), Volume 4, Issue 4, 2013, pp. 111 - 118, ISSN Print: 0976-6502, ISSN Online: 0976-6510. 8. Dr.C.Chitra, India Trade after Liberalization- Auto and Auto Components- An Overview, International Journal of Management (IJM), Volume 3, Issue 1, 2012, pp. 145 - 148, ISSN Print: 0976-6502, ISSN Online: 0976-6510.

164