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Is devaluation contractionary? empirical evidence for Pakistan

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  • Muhammad, Shahbaz
  • Faridul, Islam
  • Naveed, Aamir

Abstract

The paper investigates the effect of real devaluation on economic growth. In the empirical model we also include other theoretically justified variables in the case of Pakistan, such as foreign remittances, money supply, and government spending. The paper implements the ADF method to test check the stationarity of the series; and the ARDL bounds testing approach to cointegration to establish a long run relationship. The findings affirm cointegration among the series. Real devaluation exerts contractionary effect on economic growth. The results from variance decomposition and impulse response-function show unidirectional causality from foreign remittances to economic growth; and bidirectional causality between money supply and foreign remittances. Furthermore, money supply Granger causes government spending; while devaluation Granger causes economic growth, albeit, weakly. The results should help in formulating a comprehensive trade policy including the use of competitive devaluation as a tool to correct balance of payments problems.

Suggested Citation

  • Muhammad, Shahbaz & Faridul, Islam & Naveed, Aamir, 2011. "Is devaluation contractionary? empirical evidence for Pakistan," MPRA Paper 32520, University Library of Munich, Germany, revised 01 Aug 2011.
    • Handle: RePEc:pra:mprapa:32520
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    More about this item

    Keywords

    Devaluation; Contractionary; Cointegration;
    All these keywords.

    JEL classification:

    • F3 - International Economics - - International Finance

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