Crude oil price, exchange rate and gross domestic product nexus in an emerging market: A cointegration analysis

• Author: Umberto Triacca,Emmanuel Kwasi Mensah,Gabriel Obed Fosu,Eric Amoo Bondzie
• DOI: http://doi.org/10.1111/opec.12076
• Published date: 01 June 2016
• Date: 01 June 2016

Crude oil price, exchange rate and gross

domestic product nexus in an emerging

market: A cointegration analysis

Emmanuel Kwasi Mensah*, Umberto Triacca**, Eric Amoo Bondzie***

and Gabriel Obed Fosu****

*PhD Student, Department of Economics, University of Insubria, via Monte Generoso 71, 21100, Varese,

Italy.

E-mail: ekmensah@uninsubria.it

**Associate Professor, Department of Information Engineering, Computer Science and Mathematics,

University of L’Aquila, L’Aquila, Italy.

***PhD Student, DEFAP, Universit

a Cattolica del Sacro Cuore, Milan, Italy.

****PhD Student, Department of Mathematics, Kwame Nkrumah University of Science and Technology,

Kumasi, Ghana.

Abstract

Crude oil plays an important role in the economic development of many emerging markets. This

study examines the role of global crude oil price on the exchange rate (EXR) and gross domestic

product (GDP) of Ghana (a new oil producing country) using the Johansen modelling technique for

the period, 1980–2013. Following the cointegration of the variables, the vector error correction

model was developed, which revealed that oil price could increase the GDP growth by 3 per cent but

can negatively affect the EXR in the long run. The short-term analysis points to Granger causality

from oil price and GDP to energy consumption. It further reveals causality from oil price and EXR to

GDP, which indicates that development in the global oil price as well as the performance of the

currency can impact economic growth. No significant evidence of the oil price role in EXR volatility

was found; however, the ‘Dutch disease’syndrome was eminent through EXR appreciation.

Moreover, the overall response of GDP to oil price shocks for the forecast period is insignificantly

positive even though oil price shock tends to retard economic growth in the first 3 years.

1. Introduction

Crude oil has been established as one of the important commodities in the world. Since

its discovery in the 1800s, the product has not had much alternative to its use. Products

derived from crude oil, such as diesel fuel, jet fuel, motor gasoline and heating oil,

provide about 33 per cent of the energy needs of household, businesses and

manufacturers globally (Energy Information Administration, 2013). As such, the price

of oil and its attendant effect on economic output remains an issue of concern to

emerging world economies. For many countries, their over reliance on its import or

©2016 Organization of the Petroleum Exporting Countries. Published by John Wiley & Sons Ltd, 9600 Garsington

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212

export have led to adverse effect on their economies during price shocks. Modelling oil

price and other essential economic variables that oil price exert direct influence on, has

become necessary to mitigate any inauspicious circumstance on an economy. Avai lable

literature have lend credence to this, investigating oil price impact with the VAR-VEC

model (See Chang and Wong, 2003; Jim

enez-Rodr

ıguez*and S

anchez, 2005; De

Gregorio et al., 2007; Kilian, 2009; Atems et al., 2015).

Such empirical studies have shown that oil price volatility can have significant

impact on macroeconomic indicators in emerging economies. The extent of the effect

depends on understanding the demand and supply shock underlying the price shocks.

Such shocks are also different depending on the specific country’s sectoral composition,

consumption intensity and fiscal health. Generally, for oil-producing economies, while

increase in oil price suggests a positive impact on output and growth, the effect is

negative for oil-importing economies. Oil production accounts for a larger portion of

gross domestic product (GDP); an increase in oil prices increase the value of the

currency of the former and a reduced purchasing power for the latter indicating transfer

of wealth from the latter to the former.

Like many emerging markets, oil price fluctuation has its own effect on the economy

of Ghana. Located in the Sub-Saharan Africa, Ghana is one of the emerging economies

making high strides in terms of growth and development. Ghana’s GDP growth has been

increasing at an average growth rate of 5.6 per cent from 2000 to 2010. In 2011, the GDP

grew at a record rate of 15 per cent, above the Sub-Saharan average GDP growth of 4.7

per cent making the country one of the fastest growing economies in the world. Proceeds

from the export of cocoa, gold and recently crude oil constitute a larger portion of the

GDP. Crude oil production which started in 2010 is becoming the main backbone of the

economy recording 5.4 per cent of the GDP growth rate in 2011. Inflow of oil proceeds

to the government stood at 30.7 per cent, 30.6 per cent, 32.8 per cent and 45 per cent of

total oil revenue in 2011–2014, respectively, with a projection of 60.5 per cent in the

year 2020 (World Bank, 2009). As expected, government expenditure has increased

beyond expectation. With more expectation of infrastructure development and economic

growth from the oil proceeds, the country has yet to respond to this growth. It has been

argued that resource wealth such as oil can lead to corruption, unattainable government

policies, rent-seeking problems and in many jurisdiction conflicts (Ross, 1999; Darko

Osei and Domfe, 2008).

The main energy consumption (ENGC) in Ghana in recent years has been dependent

on oil consumption. Statistical record from the world bank database estimate over 50 per

cent of petroleum consumption as a percentage of GDP for the past few years.

1

Oil

import valued US $ 3885.1 million dollars and it accounted for 28.3 per cent of total

import as well as 11 per cent of GDP share in 2013. One major concern of policy makers

is the performance of the exchange rate (EXR) of the country in her international

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Crude oil price, exchange rate and GDP nexus 213