Abstract:
Exchange rate volatility affects export competitiveness and, thereby, has an impact on
export growth. Economies that embark on export-led economic growth endeavour to
maintain a competitive exchange rate policy as an important measure of
macroeconomic management. Many studies have investigated the impact of
exchange rate volatility on export growth. Yet, only a few have found a significant
relationship between these variables. This paper investigates the same issue in the
context of Sri Lanka. It focuses on the causal effects of the short- and long-run
relationship between exchange rate movements and export growth in Sri Lanka. It
employs quarterly data spanning the first quarter of 2000 to the fourth quarter of
2015. It incorporates the following variables: real exports, real imports, real Gross
Domestic Product (GDP), and price indices extracted directly from data sources such
as the Central Bank, the World Bank and the IMF, with only real exchange rate
volatility and Real Exchange Rate (RER) as derived data series. All data figures are
expressed in Rupees millions, unless otherwise stated. A time series analysis was
performed on exchange rate volatility and Sri Lanka’s Export Growth, involving
Augmented Dickey Fuller (ADF) unit root test, Johansen Co-integration test, Vector
Error Correction (VEC) modelling and Granger casualty tests. The study finds that
there is a unique co-integrating vector linking real exports, relative export prices and
real exchange rate volatility both in the short- and long-run. Further, the findings
show that the volatility of the real exchange rate has a significant impact on exports
destined to Sri Lanka’s main export markets, which are the USA and the UK, both in
the short- and long-run. Overall, the findings of the study confirm the notion that Sri
Lanka’s export trading activities could be expanded by maintaining a stable
competitive Real Exchange Rate.
