Doctoral Dissertations

Date of Award

5-1992

Degree Type

Dissertation

Degree Name

Doctor of Philosophy

Major

Economics

Major Professor

Paul Davidson

Committee Members

Hui S. Chang, Don P. Clark, George Philippatos

Abstract

There are only a few studies on the exchange rate responsiveness of developing countries' trade balances. These studies, however, focus on changes in the exchange rate of domestic currencies of these countries. Since LDCs' international trade is contracted and settled predominantly in terms of major currencies, the exchange rates among these currencies play a vital role in influencing these countries' balances of trade. The present study examines the effects of changes in the effective exchange rate of the U.S. dollar on the merchandise trade balances of three oil exporting countries, Iran, Venezuela, and Saudi Arabia. These countries are chosen because their export revenues are almost entirely in dollars; therefore, the impact of changes in the exchange rate of the dollar on these countries' trade balances (in terms of dollars) is expected to be more substantial than on any other developing country's trade balance. Within an exchange rate Pass-through model, both prices and quantities of traded goods of these nations are estimated by using quarterly data for the period of 1960 through the 1980s. The model allows i) changes in exchange rate of the dollar to affect price of traded goods, and ii) changes in price to influence quantity of traded goods. The model is estimated over the fixed and floating rate periods. Some of the major conclusions of this study are;

1) Changes in the effective exchange rate of the dollar pass only partially into these countries* import prices. For instance, a 10 percent depreciation of the dollar during the post Bretton Woods period would have caused import prices expressed in dollars to rise by 7-8 percent, leaving 2-3 percent to be borne by exporters of non-dollar denominated commodities.

2) During the fixed rate period, export prices of these countries remained invariant with respect to changes in the exchange rate of the dollar. This result is consistent with the increase in output by international oil companies holding oil concessions in the Middle East during the 1960s and early 1970s. In contrast, under the floating rate system, this study found that a 10 percent depreciation of the dollar, for instance, caused export prices of Iran and Venezuela to rise by 25 and 22 percent, respectively, but Saudi Arabia's export price remained insensitive as during the fixed rate period. The export price elasticity figures, however, are greater than an adequate price adjustment to provide constant purchasing power to Iran and Venezuela. Saudi Arabia, on the other hand, absorbs fluctuations in the exchange rate of the dollar by keeping its export price constant. Consequently industrial countries have shifted their demand away from Iran and Venezuela in favor of Saudi Arabia whenever there has been a rise in price of oil. This country's price moderation policy is consistent with its market expansion for revenue maximization purposes. This policy of Saudi Arabia's is a reflection of its economic and financial conditions such as oil reserve potentials, financial reserves, as well as longrun surplus in trade balance. However, our results suggest that Saudi Arabia has been neither a "perfect competitor" nor a "dominant producer" within OPEC.

3) With regard to these countries' export price/quantity strategies, the results indicate that Iran and Venezuela are primarily price maximizers, while Saudi Arabia is concerned more with its market share, an outcome consistent with the "absence of a unified OPEC policy" view.

4) While changes in exchange rate of the dollar do influence these countries' trade balances in terms of the U.S. dollar, each country's trade balance follows different adjustment patterns under the fixed and flexible exchange rate regimes. Specifically, responses of trade balances to changes in exchange rate of the dollar are not identical among the group countries. In fact, the group countries are different not only in their resource endowments, economic positions or political views, but also in the facts that i) their export prices of oil respond differently to the changes in exchange rate of the dollar and ii) the price of oil, to some degree, is reflective of these countries' domestic price levels. Based on the results of this study we put forward policy implications as follows:

1) A fixed exchange rate system can secure relatively stable import prices for the group countries as well as stable costs of oil-import for industrial countries. Alternatively, indexation of the price of oil to a market basket of major currencies would ensure stable energy costs in oil-importing countries. Such a policy, however, may not be consonant with U.S. and Saudi Arabian economic interests.

2) Despite Saudi Arabia's power to influence market price of oil, other members of OPEC such as Iran and Venezuela could counteract Saudi's unilateral oil production decisions by reducing their market shares.

3) Given the current state of world economy, any coordinated attempt by OPEC members to regulate output in order to raise prices excessively would further worsen the world economy. However, such an attempt is highly unlikely in the near future.

4) Restrictive policies by industrialized nations that directly or indirectly dampen demand for oil from OPEC will put pressure on these countries' demand for manufactured commodities from industrial countries.

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