Effect of recent U.S. monetary policy on its balance of trade

Deergha Raj Adhikari
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Deergha Raj Adhikari: University of Louisiana at Lafayette, USA

Journal of Developing Areas, 2016, vol. 50, issue 3, 381-388

Abstract: Following the beginning of the financial crises in 2008, the Federal Reserve introduced a number of new monetary policy tools. It was aimed at supporting the functioning of financial markets during the crisis and helping the economy recover from the recession by altering both the size and composition of the Federal Reserve’s balance sheet. These new policy tools came as a last resort when traditional policy tool, such as, the federal funds rate target was already constrained near zero. This new policy tool – called “quantitative easing” – is comprised of (a) lending to financial institutions, (b) providing liquidity to key markets, and (c) purchasing longer-term securities. While the first two were aimed at lowering the short-term lending rates, the third one was aimed at lowering the long-term lending rates. Lowering of the lending rates was expected to raise consumer and business spending and, thereby, stimulate the economy. There have been studies on the effect of this new policy tool on various aspects of domestic and international economies. However, none has evaluated the policy’s effect on U.S. balance of trade. Our study develops a model of the balance of trade, which is a function of domestic (U.S.) and foreign real GDPs, exchange rate of U.S. dollar, and monetary policy (credit easing) dummy. We then empirically test the model on a panel data for the U.S. and BRICS countries over the period, 1995 – 2014, and find that the Fed’s quantitative easing has no effect, whatsoever, on U.S. balance of trade. This finding although seems counterintuitive but is logical. This is because, the BRICS countries’ economic growth is mainly export driven. Therefore, a rise (fall) in their GDP means a rise (fall) in their exports, that is a rise (fall) in U.S. imports from these countries causing a fall (rise) in U.S. balance of trade. This negative effect of BRICS countries’ real GDP on U.S. balance of trade was offset by the positive effect of lowered value of the U.S. dollar – caused by the Federal Reserve’s quantitative easing – leaving the U.S. balance of trade unaffected.

Keywords: quantitative ending; real GDP; balance of trade (search for similar items in EconPapers)
JEL-codes: F3 (search for similar items in EconPapers)
Date: 2016
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Citations: View citations in EconPapers (1)

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Persistent link: https://EconPapers.repec.org/RePEc:jda:journl:vol.50:year:2016:issue3:pp:381-388

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