On the impact of kuna exchange rate on Croatian

foreign traderesults: Elasticity approach

Petar Sorić

Presentation structureMotivation and subject of researchData & econometric methodsTheoretical backgroundRelated literature reviewEmpirical modelsEconometric results and their

implicationsConcluding remarks

Motivation and subject of research

Motivation and subject of research

•TB reaches it’s low point in 1997, Q4; stagnation from 2002

•rer’s follow the tb trend line until 2003, when they diverge

1996 1997 1998 1999 2000 2001 2002 2003 2004 2005 2006 2007 2008

5.85

5.90

5.95

6.00

6.05

6.10Lde Lita

Laut Ltb

Series means are adjusted in order to fit on the graph

Data & econometric methodsQuarterly data, 1996Q1 to 2007Q4,

seasonally adjusted and in logarithmso tb=ln(X)-ln(IM)o rer data obtained by correcting nominal exchange

rate for the ratio of foreign and domestic price level (CPI)

o rer increase=appreciation

Johansen’s approach used in order to obtain both the short run (VECM) and the long run elasticity coefficients (cointegration vector) J-curve analysis

Theoretical background

Marshall-Lerner condition

J-curve

1 ε εUE

Related literature review

Turkalj (2005): small (but expected) estimated imports and exports exchange rate elasticities (OLS)

Mervar (2003): income effect dominates over the exchange rate impact (PSS)

Stučka (2003): Existence of the J-curve, estimated long-run rer coefficient of 0.9-1.3% (ARDL, PSS, Bewley ARDL)

Analysis results differ with respect to the used method

Empirical models

“Catch all” modeltb = f(gdp_cro, gdp_de, gdp_aut, gdp_ita,

rer_de, rer_aut, rer_ita) Three disaggregated models (CRO

vs.DE, CRO vs. ITA and CRO vs. AUT)tb = f(gdp_cro, gdp_de, rer_de) tb = f(gdp_cro, gdp_ita, rer_ita) tb = f(gdp_cro, gdp_aut, rer_aut)

rank eigenvalue trace p-value0 0.86921 274.18 0.000*1 0.75404 184.67 0.000*2 0.65149 122.96 0.001*3 0.49563 76.577 0.052***4 0.34848 46.461 0.2025 0.27234 27.610 0.2636 0.17118 13.621 0.3247 0.11469 5.3601 0.255

Source: Author's calculationNote: *denotes rejection of the null hypothesis of no cointegration at 1% significance level, ***denotes rejection at 10% significance level

Results of Johansen's cointegration test

“Catch all” model

The following restrictions were imposed:

•β tb =1

•α rer_aut= α gdp_ita = α gdp_aut = αgdp_cro=0

•β gdp_cro = -1;

•α rer_aut = α rer_de

•β gdp_aut =- β gdp_de

Above mentioned restrictions were jointly accepted by a LR test ( , p-value of 0.2670)

8401.8)7(2

Econometric results and their implications

tbt = -153.60 + gdp_crot -2.88gdp_det + 2.88gdp_autt + 5.03 gdp_itat + 6.63rer_det+ 8.399 rer_autt -11.88 rer_itat

Unexpected gdp_de and gdp_cro sign: Croatian exports structure uncorrespondance to German imports demand

rer_de and rer_aut coefficients: tb worsening as a long-run result of kuna

depreciation (exports is often generated by imports in Croatia, e.g. shipbuilding)

VEC modelvariable coefficient t-value variable coefficient t-valueΔtb t-1 0.460790 0.898 Δgdp_aut t-2 5.41158 1.89Δtb t-2 -0.230929 -0.468 Δgdp_aut t-3 1.17847 0.409Δtb t-3 0.150000 0.346 Δgdp_aut t-4 5.40780 1.83Δtb t-4 -0.684785 -1.62 Δrer_de t-1 -12.9903 -0.976Δgdp_cro t-1 4.11479 2.35 Δrer_de t-2 5.78325 0.452Δgdp_cro t-2 -3.56807 -1.51 Δrer_de t-3 4.88599 0.411Δgdp_cro t-3 -1.56398 -1.03 Δrer_de t-4 3.04197 0.204Δgdp_cro t-4 -2.80733 -2.22 Δrer_ita t-1 10.4275 1.84Δgdp_de t-1 -7.13117 -1.18 Δrer_ita t-2 0.461034 0.121Δgdp_de t-2 -1.15130 -0.189 Δrer_ita t-3 -2.63489 0.891Δgdp_de t-3 5.85703 0.918 Δrer_ita t-4 -4.88785 -1.75Δgdp_de t-4 0.0664882 0.0113 Δrer_aut t-1 0.397508 0.0324Δgdp_ita t-1 -3.30309 -0.659 Δrer_aut t-2 -7.80636 -0.666Δgdp_ita t-2 9.45495 1.80 Δrer_aut t-3 -0.628294 -0.0569Δgdp_ita t-3 -8.92433 -1.33 Δrer_aut t-4 0.623153 0.0468Δgdp_ita t-4 1.72359 0.413 constant 106.568 1.78Δgdp_aut t-1 -2.99187 -1.22 ECT t-1 -0.347350 -1.78

test test statistics p-value

AR 1-1

test

F(1,5) =

2.76240.1574

ARCH 1-1

test

F(1,4)

=0.00364410.9548

Normality

test

χ2(2) =

5.31250.0702

RESET test

F(1,5) =

0.548660.4922

Properties of VECM residuals

Croatia vs. Germany

rank eigenvalue

trace p-value

0 0.48061 54.234 0.010*1 0.40020 25.410 0.1522 0.048563 2.9185 0.9633 0.72814 0.72814 0.393

Results of Johansen's cointegration test for CRO vs. DE model

Source: Author's calculationNote: *denotes rejection of the null hypothesis of no cointegration at 1% significance level

tbt = -0.39gdp_crot + 2.27 gdp_det + 1.43rer_det

• GDP coefficients confirm economic theory

• rer_de elasticity coefficient suggests tb deterioration in case of a devaluation

Uncompetitive economic structureImport dependency of the Croatian economy

Croatia vs. Italy

rank eigenvalue trace p-value0 0.45911 39.342 0.2501 0.19462 12.302 0.9172 0.061125 2.7784 0.9693 7.099E-005 0.00312 0.955Source: Author's calculation

Results of Johansen's cointegration test

Direction of causality F-statistic Probabilitydgdp_cro → dtb 0.31761 0.72985dtb → dgdp_cro 0.20864 0.81263dgdp_ita → dtb 0.00535 0.99467dtb → dgdp_ita 0.51184 0.60357drer_ita → dtb 1.73082 0.19117dtb → drer_ita 0.93491 0.40170dgdp_ita → dgdp_cro 0.17043 0.84396dgdp_cro → dgdp_ita 2.57628 0.08964drer_ita → dgdp_cro 0.42935 0.65413dgdp_cro → drer_ita 3.63060 0.03633drer_ita → dgdp_ita 0.43403 0.65115dgdp_ita → drer_ita 2.04470 0.14379

Granger causality test results

Relationship direction opposed to the expected?

Croatia vs. Austria

rank eigenvalue trace p-value0 0.47123 48.181 0.045*1 0.31109 20.143 0.4242 0.073882 3.7473 0.9163 0.0083767 0.37013 0.543

Results of Johansen's cointegration test for CRO vs. AUT model

Source: Author's calculationNote: *denotes rejection of the null hypothesis of no cointegration at 1% significance level,

Confirmation of the CRO vs. DE model conclusions

rer_aut coefficient opposed to economic theory

tbt = -0.82gdp_crot + 1.91gdp_autt + 0.71 rer_autt

Concluding remarksMarshall-Lerner condition & J-curve

nonvalidity in Croatia?Real economic problems should

primarily be solved by real variables and measures?

Possible shortcomings:oshort time spanothe need of including other trade

partners in the analysisKuna devaluation effects should be

observed much wider