Modelling long-run equilibrium exchange rate in Botswana

Abstract

In this paper, we have estimated the equilibrium real exchange rate for Botswana. We have also reviewed the exchange rate regimes pursued by Botswana from independence to date. The evidence suggests that Botswana operated a fixed exchange rate without adjustable pegs from 1966-1976; a fixed exchange with adjustable pegs from 1976-1980; and a fixed exchange with a currency basket from 1980 to date. From the ARDL bounds testing procedure, we found that the fundamental determinants of the equilibrium real exchange rate in Botswana are: the terms of trade and trade openness. The actual real exchange rate appears to have deviated significantly from the equilibrium exchange rate. Perhaps more worrying is the fact that our estimated speed of adjustment is very slow. This means that significant deviations are not corrected fast enough annually. Policymakers in Botswana are encouraged to pursue policies, which could raise the adjustment parameter, in order to avoid excess misalignments, when going forward.