In 2012, the Bangko Sentral ng Pilipinas (BSP) introduced revisions in the formulation of its effective exchange rates (EERs) following general trends occurring in global trade and practices in the calculation of exchange rate indices by international financial institutions and other central banks. The usefulness of the revisions in the EERs may be demonstrated by examining the changes in the relationship of the old and revised indices with the trade balance.
The empirical exercise reveals that the revisions in the calculation have important implications on the significance placed on EER as a factor affecting the trade balance. First, Philippine trade with advanced economies is not influenced in the long run by movements in EER, whether the old or new index is used. Second, the EER has a long-run relationship with the Philippines’ trade with developing and emerging countries. This suggests that in the long run, movements in EERs have greater influence on Philippine trade with developing and emerging countries than with trade with advanced countries. Third, important differences are revealed when old and new indices are used to estimate the relationship between EER and the country’s trade balance with respect to developing and emerging countries, such that lesser importance is assigned on the EER as a factor affecting the trade balance when the new index is used. This implies that other long-run factors (e.g., productive capacity) may be more important in influencing the trade balance.
