Jarir Ajluni

Background

Background: The Korean Miracle Key Achievements of the Korean Economy  Growth. (GDP per capita doubled 11 times during 1960 – 2003)  Exporting Boom. (Gross exports increased by 6000 times!)  Industrialisation (increased share of manufactured exports)  Financial Development (financial Depth in M2/GDP).  Attractive destination for FDI.  Joining the OECD!

Background: The Korean Miracle Key Challenges to the Korean Economy  Oil Price Hikes (OPEC oil price shocks 1973 & 1979)  Integration (increased exposure to global fluctuations)  Geo-Political Constraints.  Corruption.  The Asian Crisis of 1997 (currency crisis, increased interest rates, doubled Unemployment, recession)

Modelling Strategy

The Theoretical Framework  The IS-LM-BP Framework R, ex y IS LM BP  Purchasing Power Parity PPP LM BP IS

Core Model Econometric Formulation of IS-LM-BP-PPP leads to: Error terms above are “Deviations from Equilibrium”

Classifying trading partners Trading partners are grouped into: I.United States (US). II.Rest of the G7 (RG7). III.Rest of the OECD countries (ROECD). IV.Developing Oil Exporting Countries (DOEC). (including OPEC & non-OPEC exporters) V.Rest of Developing Trading Partners (RDTP).

Construction of the Trade Weights Country Trade Weights (h: home f: foreign economy) Regional Trade Weights (h: home j: Region) Aggregation conditions holds:

Directions of Trade % of trade towards Developing countries 45 % of trade towards Developing countries Importance of the G7 group: US and Japan

Construction of the Model Global vector by using trade weights of (6.1) (6.2) VAR in (8) would be written in the form of (9)

VECM & Partial Systems Let vector Z be: Then the VECM of (9) would be : then we could split (10) into: Weak Exogeneity imply:

Identification Recall VECM: applying restrictions from (5a – 5d) derived from IS-LM-BP-PPP.

Empirical Results

 Presence of 4 Cointegration relationships.  Identification restrictions rejected.  Weak Exogeneity of Global Vector & Oil Price.  Low Capacity for an Independent Monetary Policy.  Evidence on higher interest rates strangling the economy (Stiglitz was right!). Empirical Results

Impulse Response Functions Response to domestic monetary policy shock

Response to foreign monetary policy shock

Emphasise the relative responsiveness

Raising the Interest Rate is NOT effective in generating capital inflow supporting the exchange rate, other factors should be considered. High responsiveness of the Interest Rate suggest Monetary policy would not be independent and should target domestic financial system & inflation NOT the exchange rate. The importance of adjusting to foreign monetary policy shocks: The Best Response proposition. Policy Implications

Testing the Model’s forecasting validity Root Mean Square Errors: y : p : m-p: R : e : 0.960