The Impacts of Exchange Rate Volatility on Handmade Carpet Exports: VECM Application

Iran has exported more than half a billion dollars’ worth of handmade carpet, which is about one quarter of the handmade carpet global market on average in the 1979- 2014 period. This research estimates the impacts of exchange rate volatility on the carpet exports using the General Auto-Regressive Conditional Heteroskedasticity (GARCH) model, J-J cointegration test and the vector error correction model (VECM). The results show that the real exchange rate, weighted average gross income of carpet importing countries, and inflation rate have positive impacts on the export of carpets. Results also show that exchange rate volatility effect is negative and significant in the short term. The J-J test results with effect test and maximum-eigenvalue test show that there is at least one long-run relationship. The VECM model also show that the exchange rate and exchange rate volatility are divergent and inflation rate and national income are convergent. Exchange rate volatility leads to income volatility of suppliers and price volatility for importers. Exchange rate volatility risk increases the risk of investment and production in the carpet industry and has a negative impact on the supply of carpets. On the demand side, as increasing market risk leads to the postponement or cancellation of the purchases, because the buyers are facing purchase price volatility. The stable monetary and foreign exchange rate policies will have positive impacts on the carpet exports and therefore are desirable.