Remittances and Real Exchange Rates in South Asia: The Case of Nepal

Abstract

The significance of remittances in Nepal’s economy warrants investigating their impact on its currency’s exchange rate and other economic indicators. No academic research has documented this phenomenon in the case of Nepal. This paper attempts to bridge this literature gap by investigating the impact of economic variables including remittances on the foreign exchange rate of the Nepalese rupee. Autoregressive distributed lag (ARDL) of Pesaran et al. (2001) and Augmented-Dickey-Fuller (ADF) unit root tests are used to test for short-term and long-term co-integrations. Empirical results show that there is an evidence that increasing remittance inflows leads to currency depreciation in the short-run and currency appreciation in the in the long-run. However, the results are statistically significant only in the short-run. As for the other control variables, the net exports flows, was the only determinant of the real exchange rate that was statistically significant, implying that an increasing net exports leads to currency appreciation in the long-run. However, all determinants affects the exchange rates in the short-run.