Analysis of Exchange Rate Regimes Pattern in Ghana

by

Acknowledgement

I would take this opportunity to thank my research supervisor, family and friends for their support and guidance without which this research would not have been possible.

Abstract

Empirical evidence on the relationship between trade liberalization, exchange rates, and economic growth is mixed. This paper examines these linkages anew, using a methodology similar to that of Adam et al. [, Adam, C., Bevan, D., & Chambas, G. (2001), Exchange rate regimes and revenue performance in Ghana, Journal of Development Economics, 64, 173-213]. Using Ghana, we perform Generalized Method of Moment regressions to test this relationship. We find evidence that the relationship between trade liberalization and economic growth is sensitive to the measure used to proxy trade liberalization, but that, in general, trade liberalization is not strongly linked to aggregate economic growth or its components—though with one measure, it is linked to higher income economic growth. Currency appreciation and higher inflation show some linkage to lower economic growths or its components. These results are consistent with previous findings, and support the notion that trade liberalization accompanied by appropriate macroeconomic policies can be carried out in a way that preserves overall revenue yield.

Analysis of Exchange Rate Regimes Pattern in Ghana

1. Introduction

Trade liberalization has frequently been the centerpiece of an economic development strategy in Ghana. Trade liberalization often entails a reduction and unification of tariffs and relaxation of quantitative barriers, and may be accompanied or supported by currency devaluation and domestic tax reform. On devising a program of liberalization, policymakers are often hindered in forecasting economic growths because of the uncertainty regarding the effects of trade liberalization and exchange rate changes on fiscal outcomes. The relationship between trade liberalization, the exchange rate, and economic growth is therefore an issue of great practical importance. This paper examines this relationship in Ghana.

We probe the following questions in this paper:

1. What is the relationship between trade liberalization and economic growths? Does increased trade liberalization lead to a reduction in economic growths through its effect on taxes from international trade or other taxes, controlling for accompanying macroeconomic changes?

2. Is the relationship sensitive to the index of liberalization adopted? Is the relationship sensitive to the econometric specification adopted?

3. What is the relationship between exchange rate changes and economic growths? Does devaluation or currency depreciation increase or decrease economic growth?

4. Are there any differences between the CFA franc (the currency used by a group of countries in West and Central Africa) and non-CFA franc countries in the revenue response of different types of taxes to trade liberalization changes?

There are two strands of work that this paper draws upon: one examining the relationship between trade liberalization and economic growth and the other examining the relationship between exchange rate changes and inflation and economic growth (or fiscal outcomes, more generally). Since trade liberalization is often accompanied by currency devaluation (and higher inflation), a thorough empirical investigation should consider the simultaneous relationship between trade liberalization and changes in macroeconomic variables and revenues.1

Section 2 outlines some theoretical considerations and ...