Real Effective Exchange Rate and Trade Balance Adjustment: The Case of Turkey

IMF Working Papers, June 28, 2019

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The real effective exchange rate (REER) remains an important determinant of trade flows for Turkey.
The effect of REER on trade flows is not symmetric in secular periods of appreciation and depreciation.
The impact of the income growth differential between trade partners often dwarfs the effect of REER on trade flows.
Results lend support to findings in existing cross-country studies that global trade flows have not become disconnected from large REER movements after the global financial crisis.

Case study economy: Turkey — described as a large and open emerging market economy that has experienced sizable swings of the REER.
Research question: Tests competing hypotheses on whether global trade flows have become disconnected from large REER movements in the wake of the global financial crisis and implications for the role of exchange rates in supporting growth and restoring external balance.
Methods and keywords indicated: ARDL model, interaction term, long-run elasticities coefficient, long-run REER elasticity, REER elasticity, REER depreciation, trade elasticity, income elasticity, export-import ratio.

Exchange rate movements continue to matter for external adjustment, but policymakers should account for:
- Asymmetric effects of REER appreciation versus depreciation on trade flows.
- Potentially larger influence of relative income growth between trading partners on trade balances.
Exchange-rate-based policies aimed at restoring external balance should be calibrated considering income differentials and asymmetries in REER effects.

IMF Working Paper No. 2019/131 (June 28, 2019) by Plamen K Iossifov and Xuan Fei.