Sources of fluctuations in Australian imports

Dynamic interactions among the real exchange rate, income and imports are modelled for Australia. Evidence of one cointegrating relationship is found among these series and base structural inferences on long-run identifying restrictions of the type proposed for vector-error correction models by King, Plosser, Stock and Watson (1991). Under the identifying restriction that a domestic supply shock has no effect on the real exchange rate in the long run, this shock explains most of the forecast-error variance of imports at all horizons except for one quarter. At this horizon, the domestic demand shock is most important. The foreign supply shock becomes more important as the forecast horizon increases and explains almost half of the forecast-error variance of imports in the long run.