## Services on Demand

## Article

## Indicators

## Related links

- Cited by Google
- Similars in Google

## Share

## South African Journal of Economic and Management Sciences

##
*On-line version* ISSN 1015-8812

### S. Afr. j. econ. manag. sci. vol.13 n.1 Pretoria Jan. 2010

**ECONOMICS**

**Real exchange rate behaviour and economic growth: Evidence from Sierra Leone**

**Abu Bakarr Tarawalie**

Department of Economics, University of Sierra Leone

**ABSTRACT**

The main focus of this paper is to examine the impact of the real effective exchange rate on economic growth in Sierra Leone. First an analytical framework is developed to identify the determinants of the real effective exchange rate. Using quarterly data and employing recent econometric techniques, the relationship between the real effective exchange rate and economic growth is then investigated. A bivariate Granger causality test was also employed as part of the methodology to examine the causal relationship between the real exchange rate and economic growth. The empirical results suggest that the real effective exchange rate correlates positively with economic growth, with a statistically significant coefficient. The results also indicate that monetary policy is relatively more effective than fiscal policy in the long run, and evidence of the real effective exchange rate causing economic growth was profound. In addition, the results showed that terms of trade, exchange rate devaluation, investment to GDP ratio and an excessive supply of domestic credit were the main determinants of the real exchange rate in Sierra Leone.

**Keywords:** Economic growth, real effective exchange rate, Johanssen Cointegration, Sierra Leone

**JEL:** E63, F31, 41, 43

**“Full text available only in PDF format”**

**References**

AGÉNOR, P.R. 1991. Output, devaluation and the real exchange rate in developing countries. *Review of 'World Economies,* 127(1): 18-41. [ Links ]

ARON, J., ELBADAWI, I.A. & KAHN, B. 1997. Determinants of the real exchange rate in South Africa. *Centre for the Study of African Economies,* WPS/97-16, Oxford: CSAE Publishing. [ Links ]

BANGURA, A., DEEN, A., THOMAS, Y.; KWATENG, F. & OKONTA, H. 2001. The relative effectiveness of monetary and fiscal policies in Sierra Leone. *Bank of Sierra Leone Bulletin,* July-December:29-39. [ Links ]

COOPER, R. 1971. An assessment of currency devaluation in developing countries. *Essays in International Finance,* No. 86. Princeton, N.J.: Princeton University. [ Links ]

DICKEY, D.A. & FULLER, W.A. 1981. Likelihood ratio statistics for autoregressive time series with a unit root. *Econometrica,* 49(4): 1057-1072. [ Links ]

EDWARDS, S. 1989. *Real exchange rates, devaluation and adjustment. exchange rate policy in developing coun,ries.* Cambridge, MA: The MIT Press. [ Links ]

_____ 1985. Are devaluations contractionary? *NBER Working Paper,* No. 1676. Cambridge, Mass.: National Bureau of Economic Research. [ Links ]

EITA, J.H. & SICHEI, M.M. 2006. Estimating the equilibrium real exchange rate for Namibia. *University of Pretoria Working Paper,* 2006-08, February. [ Links ]

ELBADAWI, I.A. 1994. Estimating long-run equilibrium real exchange rates, in Williamson, John (ed.) *Estimating equilibrium exchange rates,* Institute for International Economics, Washington, DC. [ Links ]

ENGLE, R. & GRANGER, C. 1987. Co-integration and error-correction: Representation, estimation and testing. *Econome,rica,* 35: 251-276. [ Links ]

GALI, J. 1992. How well does the IS-LM model fit postwar U.S. data? *Quarterly Journal of Economics,* 107(2): 709-738. [ Links ]

GYLFASON, T. & SCHMID, M. 1983. Does devaluation cause stagflation? *Canadian Journal of Economics* 16(4): 641-54. [ Links ]

HENDRY, D.F. 1995. *Dynamic econometrics: advanced texts in econome,rics.* Oxford University Press. [ Links ]

HSING, Y. & HSIEN, W. 2005. Impacts of monetary, fiscal and exchange rate policies on output in China: A VAR approach. *Journal of Economic Li,era,ure,* E5, F4, H6. [ Links ]

HSING, Y. 2005. Impact of monetary policy, fiscal policy, and currency depreciation on output: The case of Venezuela. *Journal of Economic Li,era,ure,* E5, F4. [ Links ]

HYDER, J. & MAHBOOD, A. 2006. Equilibrium real effective exchange rate and exchange rate misalignment in Pakistan. *SBP Research Bulletin,* 2(1). [ Links ]

JOHANSEN, S. 1988. Statistical analysis of cointegration vectors. *Journal of Economic Dynamics and Con,rol,* 12: 231-54. [ Links ]

JOHANSEN, S. & JUSELIUS, K. 1990. Maximum likelihood estimation and inference on cointegration with applications to the demand for money. *Oxford Bulletin of Economics & Statistics,* 52:169-210. [ Links ]

KAMIN, S.B. & KLAU, M. 1998. Some multi-country evidence on the effects of real exchange rates on output. *In,erna,ional Finance Discussion Paper,* No. 611, Washington, D.C.: Board of Governors of the Federal Reserve System. [ Links ]

KEMME, D.M. & ROY, S. 2005. Real exchange rate misalignment: Prelude to crisis? *William Davidson Ins,i,u,e Working Paper,* No. 797. [ Links ]

KUIJS, L. 1998. Determinants of inflation, exchange rate and output in Nigeria. *IMF Working paper,* WP/98/160 Nov. [ Links ]

MONTIEL, P. 1997. Exchange rate policy and macroeconomic management in ASEAN countries. In Hicklin, J. et al. (eds.) *Macroeconomic issues facing ASEAN countries.* Washington, D.C.: IMF. [ Links ]

MORLEY, S.A. 1992. On the effect of devaluation during stabilization programs in LDCs. *Review of Economics and S,a,is,ics,* 74(1): 21-27. [ Links ]

ODUSOLA, A.F. & AKINLO, A.E. 2001. Output, inflation and exchange in developing countries: an application to Nigeria. *The Development Economies* XXXIX-2. [ Links ]

PARIKH, A. 1997. Determinants of real exchange rate in South Africa: A short-run and long-run analysis. *African Journal of Economic Policy,* 14(1). [ Links ]

PHILLIPS, P.C.B. & PERRON, P. 1988. Testing for a unit root in time series Regression. *Biometrika,* 75: 335-346. [ Links ]

PRICK, D.H. & VOLLRATH, T.U. 1994. Real exchange rate misalignment and agricultural export performance in developing countries. *Economic Development and Cultural Change. [ Links ]* SAID, E.S. & DICKEY, D.A. 1984. Testing for unit roots in autoregressive-moving average models of unknown order. *Biometrika,* 71(3); 599-607. [ Links ]

THAPA, N.B. 2002. An econometric analysis of the impact of real effective exchange rate on economic activities in Nepal. *Economic Review: Occasional Paper,* No. 14, April. [ Links ]

Accepted January 2010

**Endnotes**

1 The real exchange rate is the nominal exchange rate (index) adjusted for price changes in the domestic economy relative to those of trading partners (Fosu, 1992); that is, RER = EP*****/P, where RER is real exchange rate, E is nominal exchange rate, P* is foreign price level, and P is domestic price level.

2 See World Bank country briefing.

3 *Bank of Sierra Leone Bulletin.* 1997: 20.

4 The leone (Le) is the domestic currency denomination in Sierra Leone.

5 Devaluation involves a reduction in the value of the domestic currency vis-à-vis the currencies of its trading partners.

6 The model consists of exportable goods, importable goods and non-tradable goods (see Dorbusch, 1974).

7 Note that **Δ**ln *reert* = ln *reert* - ln *reert-*_{1}

8 A negative sign implies the impact of a given variable on the REER and leads to an appreciation of the real effective exchange rate, while a positive sign means that the effect of a variable causes a depreciation of the REER.

9 The reert is weighted by the trade shares of exporting partners, and this is computed as:

where *i* represents the four major export partners of Sierra Leone, α*i*. is the weight or share of the *i*th country in the total export of Sierra Leone, *CPIi** is the consumer price index of the *i*th country, *ei* is the bilateral nominal exchange rate defined as leones per currency of the *i*th country, *CPI* is the domestic consumer price index.

10 Terms of Trade = (Export price index/ import price index)*100.

11 OPEN = (X+IM)/GDP, where X is export and IM is import.

12 Beta coefficient (ß) of a variable is defined as follows: ß = (coefficient of the variable * standard error of the variable)/standard error of the regression. A higher beta coefficient means a stronger influence of that variable on the dependent variable. A lower beta coefficient means a weaker influence of the variable on the dependent variable.

13 Countries of the WAMZ include Gambia, Ghana, Guinea, Nigeria and Sierra Leone.