Abstract

In this paper, we use BNR quarterly macroeconomic time series data from 2000 Q1 to 2020 Q4 used in this study. The trade balance is the dependent variable, and the real effective exchange rate, GDP per capita, trade openness, trade conditions and foreign direct investment are the explanatory factors. In this study, VAR and VAR impulse responses were used for Rwanda. According to our findings, all variables at I(1) are stationary, which means that there is a long-run relationship between the cointegrating variables. The results of the linear model show that the real effective exchange rate has no impact on the trade balance in the short run, but improves the trade balance in the long run. In addition, Granger causality and impulse response analyzes are used to study the dynamics of exchange rate and current account adjustments. We also provide evidence of spillover effects from Rwandan demand shocks and central interest rate policy shocks. This study recommends to policymakers that a devaluation of the Rwandan franc improves the trade balance in the long term. However, increasing the volume of foreign direct investment in Rwanda also increases import and profit repatriation.

Keywords: Current account, Exchange rate, Macroeconomic shocks, VAR