Unpacking the asymmetric impact of exchange rate volatility on trade flows: A study of selected developed and developing Asian economies

Abstract

Maintaining a stable exchange rate is a challenging task for the world, especially for developing economies. This study examines the impact of asymmetric exchange rates on trade flows in selected Asian countries and finds that the effects of increased exchange rate volatility on exports and imports differ among Pakistan, Malaysia, Japan, and Korea. The quarterly data from the period 1980 to 2018 is collected from the International Financial Statistics (IFS) database maintained by the International Monetary Fund (IMF). We employ both linear and non-linear Autoregressive Distributed Lag (ARDL) models for estimation. The non-linear models yielded more significant findings, while the linear models did not indicate any significant effects of exchange rate volatility on trade flows. The results of the study suggest that in the case of Pakistan, both the linear and non-linear models indicate that increased exchange rate volatility adversely affects exports and imports, while decreased volatility enhances both. This implies that stabilizing the exchange rate would be beneficial for Pakistan’s trade. In contrast, the linear model applied to Malaysia shows no long-run effects of exchange rate volatility on exports. However, the result suggests that decreased volatility stimulates Malaysia’s exports. Therefore, in the case of Malaysia, stabilizing the exchange rate could contribute to boosting exports. We also found that increased exchange rate volatility boosts exports of Japan. On the other hand, decreased volatility hurts exports of Japan. As for the long-run effects of exchange rate volatility on imports, we found that increased volatility boosts imports of Korea. The study provides various policy implications regarding the impact of exchange rate volatility on trade flows in developing economies. The study highlights the importance of country-specific considerations in understanding the impact of exchange rate volatility on trade flows, and has important policy implications for promoting trade and economic growth in these nations. It emphasizes the need to model exchange rate volatility separately for developed and developing countries and to continue research and analysis to identify ways to mitigate its negative effects on the economy.

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“…Bosupeng, Naranpanawana, and Su (2024) contribute to this discourse by demonstrating that, generally, volatility diminishes the positive effects of an appreciation shock on the trade balance in developed countries, both in the short and long term. Meanwhile, Kayani, Aysan, Gul, Haider, and Ahmad (2023) explore the linear and non-linear relationships between exchange rate volatility and trade balance across Pakistan, Malaysia, South Korea, and Japan. They discover that while reduced volatility benefits Pakistani and Malaysian exports, it detrimentally affects Japanese exports, showcasing the complexity of this relationship.…”