Page 84 - Azerbaijan State University of Economics

THE JOURNAL OF ECONOMIC SCIENCES: THEORY AND PRACTICE

The graph suggests that the initial deterioration of the trade

balance in response to a 2.93% depreciation in manat is around 11%.
The short-run effect, as indicated on the graph, lasts for about 4 months,

or less than half a year. The figure is inconsistent with the conventional
belief that the short-run adjustments should last for one year (Krugman,

1991:451). From month 5 onwards the volume effect begins to set in.

After approximately 1 full year, or 12 months, the trade balances reaches
its long-run static condition at a 8% surplus. In theory, such rapid short-

run adjustment is possible. However, further analysis of the composition
of the non-oil exports sector will be necessary.

The J-curve manages to capture the response of the balance of

trade to the combination of the price and volume effects. However, the
two effects must be decomposed in order to demonstrate correctly the

reason for the trade balance improvement in the medium-run. Either the
ratio of the prices of exports to the prices of imports decreases and later

returns to its pre-depreciation level, or the volume of exports grows as
the price ratio stabilizes at its new below-zero equilibrium. In order to

reveal the motor behind the J-curve dynamics, a new set of VEC models

is built, now with two additional endogenous variables in P x and P im,
which are the price indexes of non-oil exports and total imports. Thus,

the new model with the trade prices takes the following theoretical
format.

ln(X t) = α 0 + β x(RFX t) + β eur(lnY eur) + β px(lnP x) + ε t (7)

ln(IM t) = α 0 + β im(RFX t) + β pim(lnP im) + ε t (8)

where P x is the price of exports, P im – price of imports, β px and β pim are

the export and import price coefficients respectively.

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