The Role of Exchange Rate on Economic Growth in Malaysia: an ARDL Approach

Tam, Mei Si (2021) The Role of Exchange Rate on Economic Growth in Malaysia: an ARDL Approach. Final Year Project (Bachelor), Tunku Abdul Rahman University College.

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Abstract

The exchange rate plays crucial role in country's economy. This is because currency fluctuations depress investment and trade, which are critical to economic growth. This can be seen in Covid-19 pandemic. It caused Malaysian Ringgit (RM) depreciated, leading to a slowdown in economic growth and negative impact on consumption, export sector, unemployment rate and so on. Moreover, Malaysia has a long history of exporting goods. The decline in oil prices has led to the depreciation of RM and a deterioration in economic conditions. Thus, it becomes more important to promote stability of RM. Our research is aimed to investigate whether Malaysia’s economy is affected by exchange rate, foreign direct investment and inflation rate over period of 1980 to 2018. Subsequently, Autoregressive Distributed Lag (ARDL) test as well as an error correction model based on ARDL approach is employed to verify whether there is relationship between variables. Our finding indicates that the exchange rate is negatively correlated with the Malaysia’s economic growth in long run. Furthermore, the findings discovered that the foreign direct investment (FDI) has a positive relationship with Malaysia’s economic growth in short and long run. Therefore, this confirms the existence of Fisher's investment frontier. Moreover, our results revealed that the inflation rate is negatively correlated with the Malaysia’s economic growth in short and long run. Hence, our government should hold more foreign exchange reserves, offer tax incentives to foreign investors and lower the inflation rate via contractionary monetary policy and fiscal policy to achieve better prospects for economic growth.