Author(s)

Ghassan Al-Masbhi, Yulan Du

School of Economics and Management, Nanjing University of Science & Technology, Nanjing, China.

This paper examines the potential determinants of the exchange rate in Yemen. Different econometric tests were applied to examine the impact of the exchange rate on the inflation rate, the current account balance, GDP growth, and interest rate from 1998 to 2020. Findings show variables are stationary at first difference I(1). Johansen’s cointegration test approved the existence of the long-term relationship. According to the VECM test, the variables share a long-run relationship. There is also a short-run association of the exchange rate with inflation and interest rate. The Granger causality test implies that the exchange rate granger causes interest rate and inflation rate. Furthermore, diagnostic tests were performed to check the results’ reliability, which shows the findings are consistent. Moreover, the study also suggests that these findings contribute to policymakers and government officials’ understanding of the exchange rate fluctuation. It will also show the significant impact of the exchange rate on these variables in Yemen and other developing countries with a similar economic system. The research also provides suggestions to promote development sustainability in Yemen.

Exchange Rate, Current Account Balance, Inflation Rate, GDP Growth, Interest Rate, VECM Model

Al-Masbhi, G. and Du, Y. (2021) Determinants of Exchange Rate: Vector Error Correction Method (VECM). Case of Yemen. Open Journal of Social Sciences, 9, 47-60. doi: 10.4236/jss.2021.98005.