The Current Account Dynamics in Pakistan: An Intertemporal Optimisation Perspective.

Tahir Mukhtar, Aliya H. Khan


The intertemporal approach has become a basic reference in
open economy macroeconomics for the theoretical understanding of the
current account. Since the early 1980s there has been substantial growth
in the literature using this approach to analyse the behaviour of the
current account movements for different countries and time periods. The
theoretical refinements in the approach have led most of the empirical
studies in the literature today to apply the basic present value model
of current account (PVMCA) and its extended version to examine the
fluctuations in the current account balances of both developed and
developing countries. Using data on Pakistan over the period 1960 to
2009, the present study finds that the basic model fails to predict the
dynamics of the actual current account. However, extending the basic
model to capture variations in the world real interest rate and the real
exchange rate significantly improves the fit of the intertemporal model.
The extended model predictions better replicate the volatility of
current account data and better explain historical episodes of current
account imbalance in Pakistan. JEL classification: C32, F32, F41
Keywords: Current Account, Present Value Models, Consumption-based
Interest Rate, Pakistan

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