Exchange Rate Shocks and the Effectiveness of Macroeconomic Policies in Malaysia
The 1997-1998 financial crises had significantly affected the East Asian countries including Malaysia. The economic growth during the crises was very low and several quarters experienced negative growth compared to the pre--crisis period. The slower economic growth caused lower income and higher...
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| Format: | Thesis |
| Language: | English English |
| Published: |
2009
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| Subjects: | |
| Online Access: | http://psasir.upm.edu.my/id/eprint/8332/1/FEP_2009_2_IR.pdf |
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| Summary: | The 1997-1998 financial crises had significantly affected the East Asian countries
including Malaysia. The economic growth during the crises was very low and several
quarters experienced negative growth compared to the pre--crisis period. The slower
economic growth caused lower income and higher unemployment because producers
tried to decrease their productions due to the lower demand during the crises. The
government tried to stabilize the economy by implementing some policies such as higher
interest rate as a monetary policy instrument. However, the policies were not so
effective to stabilize the crises because the economy recovered only after two years.
Using quarterly data for the period 1980.1-2002.4, a structural vector autoregressive
(SVAR) model is utilized in the study. There are eleven variables are used in the study,
where five of them are exogenous variables, whereas others are endogenous ones. So,
the structural equations in the study are saving deposit rate and hereafter denoted as
saving interest rate, lending interest rate, government expenditure, foreign income,
exchange rate, money demand, consumption, investment, exports, imports, and income.
The SVAR is used because it can examine the exchange rate effects on the macroeconomic variables as well as the role of monetary and fiscal policies on the
exchange rate. The SVAR also produces two important tools, forecast error variance
decomposition and impulse response function. Impulse response function is used to
analyze the effects of exchange rate shocks on the macroeconomic variables and the
effectiveness of macroeconomic policies, whereas forecast error variance decomposition
is used to analyze the sources of fluctuations of macroeconomic variables.
The fluctuations of exchange rate are mainly influenced by own shocks and foreign
income. Foreign income has important role because most of the exported goods are sold
in the international market. There are two variables that influence the money demand,
exchange rate and saving interest rate. This means that exchange rate has important role
on the money demand. People consider the exchange rate in their money demand
besides saving interest rate.
The fluctuations of investment are dominantly determined by exchange rate shocks and
saving interest rate shocks. Again, the exchange rate is so important in the investment
decision, although interest rate is an important factor. There are two shocks that
determine the fluctuations of imports, exchange rate and saving interest rate. Saving
interest rate has power to influence the imports because most of Malaysians use credit to
buy goods and services. So, interest rate is very crucial in the demand for imported
goods and services. The fluctuations of income are dominantly influenced by foreign
income. This means that any fluctuation in the economic is caused by outside factor.
Exchange rate fluctuation can be minimized by implementing monetary and fiscal policies. However, the monetary and fiscal policies are not effective to stabilize the
exchange rate fluctuations because the fluctuations come from outside of the economy. |
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