An Econometric Analysis of Determinants of Exchange Rate in Pakistan

International Journal of Business and Social Science

Vol. 3 No. 6; [Special Issue -March 2012]

AN ECONOMETRIC ANALYSIS OF DETERMINANTS OF EXCHANGE RATE IN PAKISTAN Ahmed Saeed Department of Business Administration University of Sargodha Pakistan Rehmat Ullah Awan Department of Economics University of Sargodha Pakistan Dr Maqbool H. Sial Department of Business Administration University of Sargodha Pakistan Falak Sher Department of Economics University of Sargodha Pakistan Abstract

This study undertakes an econometric analysis of determinants of exchange rate for US Dollar in terms of Pakistani Rupee within the framework of monetary approach. Monthly data from January 1982 to April 2010 for Pakistan relative to USA have been used to examine the long run and short run behavior of PKR/USD exchange rate and relationship of exchange rate behavior with relative monetary variables. Stock of money, foreign exchange reserves and total debt of Pakistan relative to United States along with Political instability in Pakistan as a dummy variable are taken as determinants of PKR/USD exchange rate during the managed floating regime in Pakistan. ARDL approach to co-integration and error correction model are applied. Empirical results confirm that stock of money, debt and foreign exchange reserve balance all in relative terms are significant determinants of exchange rate between Pakistani Rupee and US Dollar. Moreover, Political instability has a significant negative effect on the value of domestic currency.

Keywords: Exchange Rate, Stock of Money, Foreign Exchange Reserve Balance, Debt, Monetary Approach,

Co-integration, Error Correction Model, ARDL

Introduction

Modeling of exchange rate behavior is one of the unsolved issues of research to be dealt with. Due to the enormous significance of the exchange rate in an economy, no one can deny the need to understand the behavior of foreign exchange markets. There is a need to study exchange rate determinants and behavior...