Abstract:
This study examines the relationship between the balance of payments and the
money supply in the context of Sri Lanka, using annual data from Sri Lanka
over the period of 1977 to 2019. The data of the balance of payments (BOP),
money supply (MS), gross domestic product (GDP), inflation (INF), and
government expenditure (GE) was collected from the world development
indicators of the World Bank and the Annual Reports of the Central Bank of
Sri Lanka. The ADF and PP unit root test methods were employes to test the
stationary of the series was. The ARDL bound test was applied to identify the
co-integrating relationship and long-run relationship between the variables.
The error correction model (ECM) was adopted to investigate the short-run
relationship as well as the long-run adjustment of the model. Finally, the
Granger Causality Test was adopted to examine the causality relationship
between variables. All unit-root test methods confirmed that all variables are
stationary at their first difference. The ARDL Bound Testing results confirmed
that, there is a cointegrating relationship between the variables. Further, this
test suggests that BOP has a positive and significant impact on MS in the long
run. The Error Correction Model found that there is no short-run relationship
between BOP and MS. The Granger causality test reveals that uni-directional
causality exists from MS to BOP. Finally, the empirical results of this study
show that there are long-run positive relationships between MS and BOP in
Sri Lanka. Meanwhile, there is uni-directional causation between MS and
BOP. This conclusion emphasizes that, in order to reduce the deficit of BOP
in Sri Lanka, MS could be used as a policy instrument in the long run.
