Date of Award:

1997

Document Type:

Thesis

Degree Name:

Master of Science (MS)

Department:

Economics and Finance

Advisor/Chair:

Basudeb Biswas

Abstract

This paper provides empirical study of whether there was a misalignment of the real exchange rate (RER) in the Bangladesh economy during 1976-1991. The time series of multilateral and bilateral RER indexes were computed for the period 1976-1991. The computed series of RER were indexed to a base year of when the RER attained its highest level and thereby appeared to be closer to the actual long-run equilibrium RER.

In the empirical part of this thesis, five different RER indexes were computed: multilateral real exchange rate index 1 (MRER1), multilateral real exchange rate index 2 (MRER2), bilateral real exchange index 1 (BRER1), bilateral real exchange rate index 2 (BRER2), and black market bilateral exchange rate index 1 (BMRER1). Computation of the multilateral and bilateral RER indexes involved data on trade weights and wholesale and consumer price indexes of the domestic economy and its trading partners, besides their nominal official exchange rates. As a result, the study period was not large enough due to the unavailability of data on all variables involved.

Misalignment of RER refers to the sustained deviation of the observed RER from its long-run equilibrium level. Three different measures of RER misalignment were constructed: purchasing power parity (RERMISPP), instability (RERMISINSTA), and black market (RERMISBLK). The MRER1, BRER2, and BMRER1 indexes were used respectively, in contrasting RERMISPP, RERMISINSTA, and RERMISBLK measures of RER misalignment.

All of these measures demonstrated RER misalignment in Bangladesh during 1976-1991. In order to compute the long-run equilibrium RER, a multivariate regression was executed with respect to the RER fundamental real variables.

Later, a time series of three different measures of RER misalignment index was regressed on the time series of the growth rate of real GDP (gross domestic product), exports, imports, savings, and investment for 1976-1991 to bring about the effects of RER misalignment on the macroeconomic performance of Bangladesh. It was found that RER misalignment adversely affected the macroeconomic performance of Bangladesh. An effectiveness index of nominal devaluation as a preventive policy eroded in later years. Consequently, a cross episode regression was executed to appraise the efficacy of 10 nominal devaluation episodes. It was found that when supplementary macroeconomic policies, such as the growth rate of domestic credit, growth rate of domestic credit to the public sector, and the growth rate in the ratio of public sector to total domestic credit were taken into consideration, nominal devaluation became more effective in bringing about the real devaluation.

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