Macroeconomic Dynamics and Trade Balance: New Insights from Korea-G-7 Trade Relations

Abstract Our investigations reveal that macroeconomic variables associated with income and exchange rates, commonly included in empirical analyses of Korea's trade balance, remain crucial for explaining Korea's trade flows. This study presents the most comprehensive investigation thus far into the connection between macroeconomic factors and Korea's trade balance with the G-7 countries. It integrates insights from four primary economic theories—elasticity, Keynesian income, absorption, and the monetary approach. Utilizing the Autoregressive Distributed Lag (ARDL) model, we examine the short- and long-term effects of variables such as income, exchange rates, government spending, and interest rates on Korea's bilateral trade flows, specifically emphasizing exports and imports. Our findings validate the persistent significance of income and exchange rates in shaping the trade balance, which is consistent with previous research. Furthermore, the study sheds light on the significant yet varied impacts of government spending and interest rates—factors that have not been studied before—across different trade patterns and timeframes. Particularly, Korean exports to the G-7 nations are notably influenced by changes in government spending and interest rates. In contrast, imports exhibit more pronounced reactions to these variables in the short term than in the long term. This analysis enriches our understanding of the macroeconomic drivers behind Korea's trade balance and provides valuable insights for policy development. JEL Classification: C22, F14, O50