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The Effect of Exchange Rate on Korea-Germany Trade Balance: An Industry Level Analysis

황호선|UTAI UPRASEN
한국세계지역학회 (The Korean Association Of Area Studies)|2017.09|세계지역연구논총 (The Korean Journal of Area Studies)|제35권 제3호|pp. 7-44

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무역수지실질환율real exchange rateARDL modelARDL모형trade balanceJ-Curve effectJ곡선 효과
주제분류정치외교학

초록

The existing literature pertaining to the role of exchange rate on trade balance exhibits the mixed empirical results. A significant argument for the inconclusive findings is the aggregation bias from clustering of trading products and trading partners in the analysis. This study examines the effect of exchange rate on bilateral trade balance between Korea and Germany which is the largest trade partner of Korea among the 28 EU countries. The analysis is conducted at 3-digit level of 97 SITC industries, using annual data between 1971 and 2016 with ARDL model employed in the study. Our findings indicate that a real depreciation of Korean Won (KRW) against Euro (EUR) causes an instant improvement on Korea’s trade balance with Germany in general rather than creating a J-Curve effect in the short run although a J-Curve phenomenon is detected in a few industries. In the long run, a real depreciation of KRW will bring about a positive effect on trade balance in the long run at least in 23 industries which account for 18.57 per cent of Korea’s total trade share with Germany. In addition, the empirical results from the total trade balance support the argument on aggregation bias. The empirical results of our study are crucial for policy implication of Korea. Our findings indicate that exchange rate policy is still a significant tool to manage the trade balance between Korea and German. However it has to be pointed out that the policy needs to be implemented cautiously since a real depreciation will come together with a J-Curve effect in 12 industries which deteriorates the trade balance in the short run.

Abstract

The existing literature pertaining to the role of exchange rate on trade balance exhibits the mixed empirical results. A significant argument for the inconclusive findings is the aggregation bias from clustering of trading products and trading partners in the analysis. This study examines the effect of exchange rate on bilateral trade balance between Korea and Germany which is the largest trade partner of Korea among the 28 EU countries. The analysis is conducted at 3-digit level of 97 SITC industries, using annual data between 1971 and 2016 with ARDL model employed in the study. Our findings indicate that a real depreciation of Korean Won (KRW) against Euro (EUR) causes an instant improvement on Korea’s trade balance with Germany in general rather than creating a J-Curve effect in the short run although a J-Curve phenomenon is detected in a few industries. In the long run, a real depreciation of KRW will bring about a positive effect on trade balance in the long run at least in 23 industries which account for 18.57 per cent of Korea’s total trade share with Germany. In addition, the empirical results from the total trade balance support the argument on aggregation bias. The empirical results of our study are crucial for policy implication of Korea. Our findings indicate that exchange rate policy is still a significant tool to manage the trade balance between Korea and German. However it has to be pointed out that the policy needs to be implemented cautiously since a real depreciation will come together with a J-Curve effect in 12 industries which deteriorates the trade balance in the short run.

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