This article investigates the validation of Harberger–Laursen–Metzler hypothesis using Pakistani data over the period of 1978Q1–2012Q4. We have used Gregory–Hansen cointegration approach accommodating structural break in the series. The results confirm the presence of cointegration between the variables. The impact of terms of trade is positive on Pakistan’s trade balance. Domestic income improves local trade balance. Foreign income has a positive impact on Pakistan’s trade balance. The causality analysis indicates the presence of feedback effect between terms of trade and trade balance. Domestic income Granger causes trade balance. The unidirectional causality is running from foreign income to Pakistan’s trade balance. This study opens up new directions for policymakers for improvements in terms of trade to sustain trade balance in Pakistan.
AftabZ., & AurangzebK. (2002). The long run and short run impact of exchange rate devaluation on Pakistan’s trade performance. Paper presented at South and Southeast Asia Econometrics Society Conference, held by Lahore University of Management Sciences (LUMS), Lahore, Pakistan.
2.
AftabZ., & KhanS. (2008). Bilateral J-curves between Pakistan and her trading partners(PIDE Working Paper No. 45). Pakistan Institute of Development Economics.
3.
AppleyardD., & FieldA.J., Jr.2001. International economics (4th ed.). Singapore: McGraw-Hill.
4.
Bahmani-OskooeeM. (1985). Devaluation and the J-curve: Some evidence from LDCs. The Review of Economics and Statistics, 67(3), 500–504.
5.
Bahmani-OskooeeM. (1986). Determinants of international trade flows: The case of developing countries. Journal of Development Economics, 20(1), 107–123.
6.
Bahmani-OskooeeM. (1995). Real and nominal effective exchange rates for 22 LDCs: 1971: 1–1990. Applied Economics, 27(7), 591–604.
7.
Bahmani-OskooeeM., & TankuiA. (2008). The black market exchange rate vs. the official rate in testing PPP: Which rate fosters the adjustment process?Economics Letters, 99(1), 40–43.
8.
Bahmani-OskooeeM., HegertyS. W., & XuJ. (2013). Exchange-rate volatility and US–Hong Kong industry trade: is there evidence of a ‘third country’effect?. Applied Economics, 45(18), 2629–2651.
9.
BaumC. F. (2004, July). Topics in time series regression modeling. InUnited Kingdom Stata Users’ Group Meetings 2004 (No. 7). Stata Users Group.
10.
BerumentH., & DincerN. (2005). Denomination composition of trade and trade balance: Evidence from Turkey. Applied Economics, 37(10), 1177–1191.
11.
BouakezH., & KanoT. (2008). Terms of trade and current account fluctuations: The Harberger–Laursen–Metzler effect revisited. Journal of Macroeconomics, 30(1), 260–281.
12.
BrodaC. (2004). Terms of trade and exchange rate regimes in developing countries. Journal of International Economics, 63(1), 31–58.
13.
BrownR., DurbinL.J., & EvansJ.M. (1975). Techniques for testing the constancy of regression relationships over time. Journal of the Royal Statistical Society, 37(2), 149–192.
14.
ChenH. J., & HsuC. M. (2006). Current account, capital formation and terms of trade shocks: a revisit of the Harberger-Laursen-Metzler effect. Journal of Economics, 88(2), 179–201.
15.
CorreiaI., NevesJ.C., & RebeloS. (1995). Business cycles in a small open economy. European Economic Review, 39(6), 1089–1113.
16.
DiboogluS. (2000). International monetary regimes and incidence and transmission of macroeconomic shocks: Evidence from the Bretton Woods and modern floating periods. Southern Economic Journal, 66(3), 590–608.
17.
DickeyD., & FullerW.A. (1979). Distribution of the estimates for autoregressive time series with unit root. Journal of the American Statistical Association, 74(366a), 427–431.
18.
ElliotG., RothenbergT.J., & StockJ.H. (1996). Efficient tests for an autoregressive unit root. Econometrica, 64(4), 813–836.
19.
FryM.J. (1986). Terms-of-trade dynamics in Asia: An analysis of national saving and domestic investment responses to terms-of-trade changes in 14 Asian LDCs. Journal of International Money and Finance, 5(1), 57–73.
20.
GregoryA. W., & HansenB. E. (1996). Practitioners corner: tests for cointegration in models with regime and trend shifts. Oxford bulletin of Economics and Statistics, 58(3), 555–560.
21.
GrilliE.R., & YangM.C. (1988). Primary commodity prices, manufactured goods prices, and the terms of trade of developing countries: What the long run shows. The World Bank Economic Review, 2(1), 1–47.
22.
GylfasonT., & RisagerO. (1984). Does devaluation improve the current account?European Economic Review, 25(1), 37–64.
23.
HarbergerA.C. (1950). Currency depreciation, income, and the balance of trade. The Journal of Political Economy, 58(1), 47–60. Retrieved from http://www.journals.uchicago.edu/doi/10.1086/256897
24.
HaynesS.E., & StoneJ.A. (1982). Impact of the terms of trade on the US trade balance: A reexamination. The Review of Economics and Statistics, 64(4), 702–706.
25.
HiroseK.I., & IkedaS. (2012). Decreasing and increasing marginal impatience and the terms of trade in an interdependent world economy. Journal of Economic Dynamics and Control, 36(10), 1551–1565.
26.
HoqueA. (1995). Co-integrating relationship between terms of trade and current account deficit: The Australian evidence. Applied Economics Letters, 2(4), 130–133.
27.
HuangK.X., & MengQ. (2007). The Harberger–Laursen–Metzler effect under capital market imperfections. Journal of International Money and Finance, 26(6), 1001–1015.
28.
Hung-JuC., & HsuC.-H. (2009). Demand changes and real exchange rate dynamics in a finite-horizon model with sectoral adjustment costs. Southern Economic Journal, 75(4), 1191–1211.
29.
IdreesT., & TufailS. (2012). The Harberger–Laursen–Metzler effect: Evidence from Pakistan. The Lahore Journal of Economics, 17(2), 87–110.
30.
IslamF., ShahbazM., & TahirM.I. (2013). Income terms of trade and trade balance: The long run evidence from Bangladesh. Bangladesh Development Studies, 36(2), 109–122.
31.
JääskeläJ.P., & SmithP. (2013). Terms of trade shocks: What are they and what do they do?Economic Record, 89(285), 145–159.
32.
JawaidS.T., & RazaS.A. (2013). Effects of terms of trade on growth performance of India. Economic Modelling, 33, 940–946.
33.
JawaidS.T., & WaheedA. (2011). Effects of terms of trade and its volatility on economic growth: A cross country empirical investigation. Transition Studies Review, 18(2), 217–229.
34.
KaplinskyR. (2006). Revisiting the revisited terms of trade: Will China make a difference?World Development, 34(6), 981–995.
35.
KouassiE., DecaluweB., & ColyerD. (1998). Is it real? The long-run relation between terms of trade and current account deficits: The Ivory evidence. Applied Economics Letters, 5(7), 437–440.
36.
LaursenS., & MetzlerL.A. (1950). Flexible exchange rates and the theory of employment. The Review of Economics and Statistics, 32(4), 281–299.
37.
LütkepohlH. (2006). Structural vector autoregressive analysis for cointegrated variables. AStA Advances in Statistical Analysis, 90, 75–88.
38.
MarquezJ. (1990). Bilateral trade elasticities. The Review of Economics and Statistics, 72(1), 70–77.
39.
MendozaE.G. (1995). The terms of trade, the real exchange rate and economic fluctuations. International Economic Review, 36(1), 101–137.
40.
NarayanP.K. (2005). The saving and investment nexus for China: Evidence from cointegration tests. Applied Economics, 37(17), 1979–1990.
41.
NgS., & PerronP. (2001). Lag length selection and the construction of unit root test with good size and power. Econometrica, 69(6), 1519–1554.
42.
NwachukwuT.E., & EgwaikhideF.O. (2007, July). An error-correction model of the determinants of private saving in Nigeria. Paper presented at the African Economic Society (AES) Conference, Cape Town, South Africa.
43.
OttoG. (2003). Terms of trade shocks and the trade balance of trade: There is a Harberger–Laursen–Metzler effect?Journal of International Money and Finance, 22(2), 155–184.
44.
PedroniP. (2001). Purchasing power parity tests in cointegrated panels. Review of Economics and Statistics, 83(4), 727–731.
45.
PedroniP. (2004). Panel cointegration: Asymptotic and finite sample properties of pooled time series tests with an application to the PPP hypothesis. Econometric Theory, 20(3), 597–625.
46.
PesaranM.H., ShinY., & SmithR. (2001). Bounds testing approaches to the analysis of level relationships. Journal of Applied Econometrics, 16(3), 289–326.
47.
Santos-PaulinoA.U. (2010). Terms of trade shocks and the current account in small island developing states. The Journal of Development Studies, 46(5), 855–876.
48.
ShahbazM., AwanR., & AhmadK. (2011). The exchange value of the Pak-Rupee and Pak-Trade balance: An ARDL bounds testing approach. Journal of Developing Areas, 44(2), 69–93.
49.
ShahbazM., IslamF., & AamirN. (2012b). Is devaluation contractionary? Empirical evidence for Pakistan. Economic Change and Restructuring, 45(4), 299–316.
50.
ShahbazM., JalilA., & IslamF. (2012a). Real exchange rate changes and the trade balance: The evidence from Pakistan. The International Trade Journal, 26(2), 139–153.
51.
SobrinoC.R. (2011). Current account, productivity and terms of trade shocks in Norway. Applied Economics Letters, 18(18), 1745–1750.
52.
The World Bank. (2013). World Development Indicators CD-ROM. World Bank.
53.
TiwariA.K., & ShahbazM. (2013). Modelling the relationship between whole sale price and consumer price indices: Cointegration and causality analysis for India. Global Business Review, 14(3), 397–411.
54.
TsenW. H. (2006). Is there a long-run relationship between trade balance and terms of trade? The case of Malaysia. Applied Economics Letters, 13(5), 307–311.
55.
TsenW. H. (2009). Terms-of-trade and trade balance: Some empirical evidence of Asian economies. The International Trade Journal, 23(4), 422–457.
56.
TurnerP. (2006). Response surfaces for an F-test for cointegration. Applied Economics Letters, 13(8), 479–482.
57.
WarnerD., & KreininM.E. (1983). Determinants of international trade flows. The Review of Economics and Statistics, 65(1), 96–104.
58.
WongH.T. (2006). Is there a long-run relationship between trade balance and terms of trade? The case of Malaysia. Applied Economics Letters, 13, 307–311.
59.
WongH.T. (2009). Terms of trade and trade balance in Korea, Hong Kong and Singapore. Labuan Bulletin of International Business & Finance, 7, 53–76.
60.
WongH.T. (2010). Terms of trade and economic growth in Japan and Korea: An empirical analysis. Empirical Economics, 38(1), 139–158.
61.
ZivotE., & AndrewsD. (1992). Further evidence of great crash, the oil price shock and unit root hypothesis. Journal of Business and Economic Statistics, 10(3), 251–270.
62.
ZortukM. (2008). Testing the relationship between trade balance and terms of trade: The case of Turkey. Problems and Perspectives in Management, 6(2), 39–43.
