Negative Terms-of-Trade Shock, the Real Effective Exchange Rate and Repo Rate Adjustments

  • Eliphas Ndou
  • Nombulelo Gumata


Policymakers do not observe shocks individually. This chapter assesses the net effects of the concurrence of negative terms-of-trade and oil price shocks on inflation, and the response of the policy rate. Evidence is presented to show that the adjustment of the trade balance to positive terms-of-trade shocks is consistent with the Harberger-Laursen-Metzler (HLM) effect. This means that the adjustment of the trade account is characterised by the dominance of the consumption-smoothing effect over the investment effect. Therefore, growth in terms-of-trade does not necessarily induce agents to significantly alter the capital stock.

The net effects of negative terms-of-trade and oil prices shocks indicate that a decline in oil price cushions GDP and consumption. But the positive net benefits of the oil prices on consumption are very transitory. The depreciation of the real effective exchange rate (REER) coincides with positive contributions to GDP and consumption. But the REER depreciates for more than a year, which is long enough to lead to highly persistent inflationary pressures. The repo rate tightens in response to the expected inflationary pressures associated with the depreciation in the REER.

Is monetary policy constrained by terms-of-trade shock? Based on the threshold effects of terms-of-trade, evidence shows terms-of-trade shocks are not a binding constraint on monetary policy. Policymakers are able to execute their mandate in pursuit of price stability irrespective of terms-of-trade regimes.


Monetary Policy Trade Balance Consumption Expenditure Inflationary Pressure Real Effective Exchange Rate 
These keywords were added by machine and not by the authors. This process is experimental and the keywords may be updated as the learning algorithm improves.


  1. Aizenman, J. (2012). The Euro and the global crises: Finding the balance between short term stabilization and forward looking reforms. Santa Cruz Department of Economics, Working Paper Series, Department of Economics, UC Santa Cruz.Google Scholar
  2. Balke, N. S. (2000). Credit and economic activity: Credit regimes and the nonlinear propagation of shocks. Review of Economics and Statistics, 82(2), 516–536.CrossRefGoogle Scholar
  3. Becker, T., & Mauro, P. (2006). Output drops and the shocks that matter. IMF Working Paper 06/172.Google Scholar
  4. Fornero, J., & Kirchner, M. (2014). Learning about commodity cycles and saving investment dynamics in a commodity exporting economy. Bank of Chile Paper Number 727.Google Scholar
  5. Funke, N., Granziera, E., & Imam, P. (2008). Terms-of-trade shocks and economic recovery. IMF Working Paper WP/08/36.Google Scholar
  6. Grohé, S. S., & Uribe, M. (2015). How important are terms of trade shocks? NBER Working Papers 21253, National Bureau of Economic Research Inc.Google Scholar
  7. Kent, C. (1997). The response of the current account to terms of trade shocks: A panel-data study. Discussion Paper 9705, Economic Research Department Reserve Bank of Australia.Google Scholar
  8. Otto, G. (2003). Terms-of-trade shocks and the balance of trade: There is a Harberger-Laursen-Metzler effect. Journal of International Money and Finance, 22, 155.CrossRefGoogle Scholar

Copyright information

© The Author(s) 2017

Authors and Affiliations

  • Eliphas Ndou
    • 1
  • Nombulelo Gumata
    • 1
  1. 1.South African Reserve BankPretoriaSouth Africa

Personalised recommendations