Income terms of trade and trade balance: the long run evidence from Bangladesh

The paper implements the Autoregressive Distributed Lag (ARDL) approach to cointegration to test the Harberger-Laursen-Metzler (HLM) effect in the context of Bangladesh. The HLM effect predicts that a rise in terms of trade from an exogenous shock to a small open economy will lead to an improvement in that country’s trade balance. Our findings confirm a long run relationship. The Granger causality test reports unidirectional causality from income terms of trade to trade balance. Results are consistent with the theoretical predictions.