Exchange Rate Uncertainty and Bilateral Trade Flows: Insights from Uganda

Abstract

This study examines the impact of the real exchange rate volatility on the level and volatility of Uganda’s bilateral trade flows with several major trade partners. The study uses secondary data in a two-way bilateral trade flow basis between Uganda and seven of her major trading partners. Panel data methods are used in the analysis. The exchange rate used in the panel analysis is the currency rate between the US dollar and Ugandan Shilling. We use GARCH(1,1) to develop measures of volatility for the real exchange rate and bilateral trade flows. The results show that real exchange rate volatility has a negative and significant effect on the level of Uganda’s bilateral trade flows. The results also show that real exchange rate volatility has a positive and significant effect on the volatility of bilateral trade flows. The bulk of exports from a developing country such as Uganda are agricultural exports. Thus, it can be seen that prudential management of the real exchange rate is very crucial for trade promotion and macroeconomic stability.