Will India’S Trade Deficit Ever Converge To Zero?- An Application Of Bounds Testing Approach To Co-Integration

We have tried to examine whether India’s trade deficit, the excess of imports over exports, will ever become zero in the long run. The Bounds Testing Approach(BTA) developed by Pesaran, et al.,(2001) is applied to the Husted(1992)’s inter-temporal budget constraint with 47 pairs of the real values of exports, Rs. Crore, and imports, Rs. Crore, of India. BTA, which is an autoregressive distributed lag model, is preferred to the conventional methods of co-integration or error correction because BTA does not require a prior the stationarity of the time series variables involved in an empirical study. The optimum lag order of our BTA model turns out to be 5, which is determined in accordance with the Akaike information criterion, Schwartz Bayesian Criterion, and Jarque-Bera test of normality. The results show that India’s exports and imports are co-integrated. Exports and imports are linked to each other in a fixed manner. This finding is also supported by Engle and Granger(1987)’s method of co-integration. But, the Husted’s export equation indicates that the co-efficient of the augmented imports is 0.898, which is statistically significant at 1% level. Since the coefficient is less than unity but positive, the trade deficit will continue widening and may become a serious problem in the near future for India to deal with. Perhaps, India’s economic reforms with regard to trade openness will have to be modified so that the trade deficit could be reduced or kept within sustainable limits.