The Impact of Exchange Rate Volatility on Exports in Sri Lanka: An Empirical Analysis from ARDL and Granger Causality Approaches

Abstract

After the implementation of freely floating exchange rate regime in Sri Lanka, exchange rate became highly volatile which had negative repercussions for trade, investment and growth. Therefore, this study investigated the impact of exchange rate volatility on exports in Sri Lanka using quarterly time series data from 2000 to 2020. ARDL Bounds testing approach was employed to identify the impact of exchange rate volatility on exports in Sri Lanka. This study adapted the moving average standard deviation method to calculate the Exchange rate volatility. The findings revealed that higher exchange rate fluctuation tends to reduce Sri Lanka’s exports both in the short-run and in the long-run. Besides, real effective exchange rate depreciation affects exports negatively in the short run, but positively in the long-run which is consistent with the J curve effect. Moreover, the increase in real foreign income of Sri Lanka’s major export trading partner countries has a significant and positive impact on Sri Lanka’s exports in the long-run as well as in the short-run. In addition, as expected, relative price exerts a significant and negative effect on exports in the long-run. This implies that the quantity demanded for Sri Lanka’s export falls as the price of export rises relative to the price of similar goods produced by Sri Lanka’s major export competitors. These findings suggest some important policy implications in managing the exchange rate system and promoting exports of Sri Lanka