Effect of exchange rate volatility on balance of Payment: evidence from Ghana

Abstract

"The need for the government to maintain macroeconomic stability is becoming increasingly crucial in the era of slow economic growth, growing unemployment and high debt. However, the trend of Balance of Payment over the years reveals an unstable pattern. One key factor that has been overlooked in terms of the determinants of Balance of Payment is exchange rate volatility. Coming from the background of volatility/instability in the Ghana’s exchange rate, could it be the reason for the instability in the trend of Balance of Payment? This question is essentially the subject matter of this study. In order to estimate the effect of exchange rate volatility on Balance of Payment, the Auto Regressive Distributed Lag (ARDL) technique was employed after the yearly exchange rate volatility had been calculated using the GARCH approach. The results of the study suggest that exchange rate volatility has a deleterous effect on Balance of Payment both in the short run and long run but the effect is more pronounced in the long run than the short run. Moreover, with the exception of inflation which was only significant in the short run, GDP growth and interest rate all had a favourable effect on Balance of Payment in both short run and long run. The study recommends that Bank of Ghana intensifies its exchange rate stabilization measures to reduce the exchange rate risk imposed on trade players. "