Exchange rate volatility and India's cross-border trade: A pooled mean group and nonlinear cointegration approach

Abstract

This paper offers first-hand commodity-level evidence regarding the effects of exchange rate volatility on India's cross-border trade with the U.S., Germany, Japan, and China. We used autoregressive conditional heteroscedasticity based models to estimate the volatility of the nominal exchange rate. To determine the short and long run relationships, we used pooled mean group estimators. The results show that, in the long run, nominal exchange rate volatility has a significant dampening impact on India's export rates to the U.S., Germany, and China along with imports from the U.S. and China. However, in the short run, the effects of the nominal exchange rate volatility on India's exports and imports were rather mixed. The study also tested the asymmetric effects of exchange rate volatility on India's trade using aggregated data. Although the results do not show much of an asymmetric effect, they do indicate that positive and negative effects differ in terms of their impact on trade volume. Policy recommendations are therefore suggested on the basis of these results.