Endogenous Changes in the Determination of the Exchange Rate of Pakistan

Abstract

The traditional economic theory of exchange rate determination does not include changes in political economy and the lobbying power of interest groups. This paper seeks to quantify and endogenize these factors, in order to calculate their impact on the exchange rate in conjunction with the fundamental macro-variable exchange rate determinants. An empirical justification in the case of Pakistan is provided using quarterly time series data from 1984-Q3 to 2014-Q4, retrieved from International Financial Statistics and World Bank database. The application of Autoregressive-Distributed Lag proved that the nominal exchange rate influenced by traditional macro variables are supplemented by other interest groups pressures; providing a better explanation of exchange rate fluctuation. The study concludes that there is an influence of these political and lobbying variables on exchange rate determination and thus show support for our hypothesis that there are hidden motives of the various interest groups present in the economy and which affect the Pakistani exchange rate.