Productivity and real exchange rates for India: does Balassa-Samuelson effect explain?
Indian Growth and Development Review
ISSN: 1753-8254
Article publication date: 27 January 2023
Issue publication date: 22 March 2023
Abstract
Purpose
This study aims to explore the long-run equilibrium relationship between India’s real exchange rate and sectoral productivity trends using internationally comparable KLEMS databases on productivity for India, China, Euro area, the USA, the UK and Japan.
Design/methodology/approach
This study uses pooled mean group estimations for panel data suggested by Pesaran et al. (1999). This method is chosen because of the presence of variables with different orders of integration.
Findings
The results find support for an “extended” Balassa–Samuelson (BS) hypothesis which allows labour market frictions that does not allow for wage equalisation between traded and non-traded sectors within a country. This mechanism continues to find some support when we separate out distribution sector that comprises wholesale and retail trade in the domestic services sector. The empirical evidence suggests that India’s real exchange rate is anchored to domestic fundamentals and is closely aligned to its fair value over a medium to long-time horizon.
Originality/value
To the best of the authors’ knowledge, unlike the available literature, which uses aggregate per-capita income as proxy for a country’s productivity growth, this paper perhaps makes the first attempt to validate the BS hypothesis by accounting for productivity differential at the sectoral levels using KLEMS data across countries. Moreover, this study takes the country’s productivity improvement rather than using a basket of countries, a prevalent practice in the literature. While this paper uses India’s data, which witnessed a prolonged appreciation in its real effective exchange rate and rapid technological progress, the authors believe its findings and policy implications could be applicable to the similar emerging market economies.
Keywords
Acknowledgements
The authors sincerely thank Dr Ashima Goyal and Dr Mridul Kumar Saggar for their constructive comments. The authors would like to thank two anonymous referees for their extremely valuable comments that helped improve the paper immensely.
Statements and declarations: The authors declare that no funds, grants or other support were received during the preparation of this manuscript. The authors have no relevant financial or non-financial interests to disclose. All authors contributed to the study conception and design. Material preparation, data collection and analysis were performed by Saurabh Ghosh, Siddhartha Nath and Sauhard Srivastava. The first draft of the manuscript was written by Saurabh Ghosh, and all authors commented on previous versions of the manuscript. All authors read and approved the final manuscript. Views expressed in this paper belong to the authors and do not necessarily reflect those held by the institution that they belong to.
Citation
Ghosh, S., Nath, S. and Srivastava, S. (2023), "Productivity and real exchange rates for India: does Balassa-Samuelson effect explain?", Indian Growth and Development Review, Vol. 16 No. 1, pp. 41-73. https://doi.org/10.1108/IGDR-11-2022-0130
Publisher
:Emerald Publishing Limited
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