Real Exchange Rate Misalignment and Economic Growth in Belt & Road Countries: The Role of Financial Integration

Abstract

Competitive exchange rate is an important tool for the economies to boost the exports and raise foreign exchange reserves. The strategy is handy when the countries are economically open to the world. BRI (Belt & Road Initiative) countries are financially integrated with each other through the foreign capital.  This study seeks to investigate the role of financial integration in the relationship between real exchange rate misalignment and economic growth in Belt & Road countries during 2001-2016 and 2013-2016 by applying the generalized method of moment (GMM). Using grouped and ungrouped samples; the results reveal that the real exchange rate plays a significant and positive role in economic growth. Financial integration also plays a significant and positive role in economic growth. The interaction terms of the real exchange rate and financial integration play a significant and negative role in economic growth. Moreover, several robustness checks like two-stage least squares, fixed and random effect models also confirms the results of the GMM approach. Furthermore, policy recommendation can be drawn from this study, like capital shortage can be adjusted by applying a competitive exchange rate policy.

Keywords: Real exchange rate misalignment; economic growth; financial integration; Belt & Road countries.

JEL Classification: O11, F43, F31

DOI: 10.7176/DCS/9-10-06

Publication date:October 31^st 2019