Empirical Relationship of Exchange Rate with Inflation, International Trade and Gross Domestic Product (GDP) in Pakistan’s Economy

Abstract

In the modern world, the exchange rate plays an important role in measuring the strength of country’s economy in global economic conditions. An exchange rate is an important tool for controlling various macro-economic variables, and it is itself affected by different macro-economic variables. Pakistan is a developing country of the world and its unstable economy faces high variability in the exchange rate or devaluation of the domestic currency. Therefore, this study investigates the relationship of an exchange rate with selected macro-economic variables (i.e. import, GDP, Inflation & export), with a special focus on Pakistan’s economy. It also aims at finding out the degree of strength at which selected independent variables to leave a significant impact on the exchange rate in the economy of Pakistan (i.e. during the period of 1992 to 2017). For this secondary database study, data extracted from official website of World Bank, State Bank of Pakistan and Economic Surveys of Pakistan. Multiple regression models were used to measure the empirical impact of selected independent variables on exchange rate. Findings show that the Import and Gross Domestic Product (GDP) have a significant negative impact on exchange rate whereas, export and inflation have a significant positive impact on the exchange rate in the economy of Pakistan. The study recommends that the Government of Pakistan should adapt to make its exchange rate policy more effective through high production, more export with a reduction of import and price stability.