The Effects of Uncertainty in Real Effective Exchange Rate on the Value-Added of Economic Sectors in East Azerbaijan Province

Abstract

The exchange rate as an important macroeconomic variable affects various economic sectors from different aspects. This study aims to determine the effects of exchange rate shocks on the performance of economic sectors of East Azerbaijan Province. To this end, first exchange rate shock is calculated using a non-linear Markov-Switching (MS) model and is included as an explanatory variable in the final model. To estimate the nonlinear model based on the maximum likelihood function, a MS model with two regimes and a pause, i.e., MSIH (2)-AR (1), is selected. Then, a panel data model with varying coefficients is estimated by pooled mean group estimator (PMGE). The model is used to analyze the effect of uncertainty in real effective exchange rate on value-added of 15 economic sectors of East Azerbaijan Province over the period 2000-2013. The results indicate positive and significant effects of capital, labor and the exports on value-added of economic sectors. Among the 15 districts of the province, exchange rate volatility has a negative and significant influence on value-added and production of 4 out of 15 sectors. The results call for paying more attention to exchange rate volatility and adopt effective policies to remove its adverse effects.

Keywords

• volatility
• real effective exchange rate
• value- added
• markov-switching technique
• panel data
• east azerbaijan province