Determinant of current account balance in Ethiopia Research proposal submitted Partial fulfillment of the requirement For the award of BA degree in EconomicsPrepared by: Bizunesh ChicheId No 1845/04

Advisor name: Wondwesn W.

Debre Markos University Collage of Business and Economics Department of Economics

June 2014 Chapter one Introduction1.1 BACKGROUND OF THE STUDY

Current account balance is the sum of the value of imports of goods and service plus the net transfer payment (net returns on investment abroad minus the value of export of goods and services where all these are measured in domestic currency. (D.salvatora ,2004 as cited by Abebayehu.Y, 2014),Developing country are characterized by low level of macroeconomics performance of high total population, low per capital income growth, under employment, budget balance deficit, high rate of inflation in continuous manner, unfavorable, unfavorable terms of trade and market instability.(Ethiopian economic association annual report,2006) .Ethiopia is a country with population of 80 million in 2007/8. It is one of the developing countries which face the problem of low per capital, inflation and current account deficit and food insecure (scarcity food).The high growth rate of the population did not match with the production of the output in the country .(NBE annual report,2009/10).In open economy policy markets are concerned with two macroeconomics goal. Internal balance and external balance are fully utilized and stability of price level is attained where as external balance is achieved when an optimal level of current account balance attained optimal balance meant that a countrys current account balance is neither so deeply deficit that the country may be unable to repay its foreign debt in the future nor strongly in surplus that foreigners are put in that position. The impact of trade liberalization is hypothesized to render the current account more sustainable relative to the represented pre liberalization era. The trend volume of exports rose sharply during the post return period relative to the pre reform period. I.e. the volume of these exported items twice less than in the perform period. The reasons behind the decline of the output of the exported items were the major determinants of the output of the export products. During the post 1992 period the value of imports a share of GDP increase continuously.(Ethiopia Economic association annual report 2004).But, the objective is for identifying what factors that determine the current account balance of Ethiopia. 1.1 statement of the problemA current account deficit is reflection of the strength of developing countries economy particularly Ethiopia and it measures the available resource coming in to the country to finance investment demand in excess national saving, on the other hand it can also shows dangers imbalance between national saving and domestic investment so as to the accumulation of debt.(Abush Grime;2011).In the case of Ethiopia there is a problem of unstable export markets consequently, it worsening term of trade and it leads to Ethiopia exports are concentrate on a small number of products. In terms of values the share of major export items have been fluctuating over time due to volatile behavior of price and unpredictable demand in the international market. On the supply side agriculture item are influence by policy problems, war structural constraint, natural factor(drought, disease)etc, there are an over increasing knowing the determinant of current account balance is one of the main target that is expected from policy makers and every individual for discarding problems regarding with it (Abebe Gizaw,2012).The current account balance is affected by or determine by so many things from time to time, however there is no sustainable increase on surplus of the curt account balance of Ethiopia. Because Ethiopia is one of the developing countries has low level of capital stock and manufacturing industries with regarding to this the country really on foreign trade. The country export mainly agricultural products ,while imports constitute different items regarding from food to different types of manufacturing goods that are required to transform its backward economy but the absence of stable and expanding exports product and market because independent for the increase in foreign exchange earnings. Therefore its necessary to knowing and assessing the determinants of current account balance of Ethiopia.(Gebregzabher T.2003, As cited by abebayehu.y).

RESEARCH QUESTION 1. What are the factors that determine the current account balance in Ethiopia?2. How to investigate the trends of current account balance in Ethiopia? 1.3 Objective of the study 1.3.1 General objective of the studyThe main objective of this study is to look for what are factors that determine the current account balance of Ethiopia. 1.3.2 Specific objectives of the study1. To examine the determinant of current account balance of Ethiopia.2. To investigate the trends of current account in Ethiopia. 1.4siginificance of the study The study would be important to induce information which helps to design appropriate and effective polices about the countrys economy and it helps to identifying what kinds of policy be adopt in order to reduces the negative impacts of variable on CAB in Ethiopia. 1.5 scope of the study The research would be focus on typical determinant factors that affect current account balance of Ethiopia for the last three decades through time series Quantitative data and its revise and assess the regime up to the present current account balance of Ethiopia 1.6 Limitation of the studyTime and finance constraints data collection requires more times but the time is but the time is highly limited to get information from different source about the current status of the situation. On the other hand to get reliable data, requires more fund but the capacity of finance does not allow to data, requires more fund but the capacity of finance does not allow to carrying out the study deeply and efficiently, since it requires more expense. 1.7 research methodology The data analyzes through using two methods of data analyzes which are the descriptive and econometrics analyses in order to make the study productive. When under econometrics analyses the estimation model would be made using ordinary least square (OLS) methods with different tests. Under descriptive analyses .it uses tables, graphs, etc for analyzing data. 1.8 Hypothesis of the study 1. REAL GDP is negatively correlated to current account balance in Ethiopia.2. Real effective exchange rate is negatively correlated to current account balance.3. Consumption is negatively related to current account balance.4. Oppenness is also relatively correlated to current account balance. 1.9 Organization of the studyThis paper has five partsThe first part is introduction part, deals with briefly about the background of the study, statements of the problem, objective of the study, significance of the study, methodology of the study, objective of the study including both general and specific objective of the study, the scope of the study, the limitation of the study, the hypothesis of the study, and organization of the study.The second part is about related literature reviews relisted to the topics and under this part which included both theoretical and empirical literature.The third part is about methodology of the study which includes methods of data analysis are, model specification, definition of variables and descriptive data analysis. The fourth part talks about data analysis method and presentation and interpretation of results in both econometrics and descriptive analysis is made.The fifth and the last part of this paper is present conclusion and give recommendation about the ultimate result and trend of the study in short and precise way.

CHAPTER TWO2. LITERATURE REVIEW2.1Theoretical literature reviewThe current account records and imports of goods and services are by convention entered as positive items in the current account balance and imports are entered as a negative ,unilateral transfers are receipts, which the residents of a country receive for free receive from abroad as negative items.(soderston and reed,1994 cited by abebayehu y).Since current account is concerned with goods and services, it is generally considered to be the most important component of balance of payments. What makes a current account surplus or deficit important is that a surplus means that the country as a whole is earning more than it is spending and increasing its stock of claims on the rest of the world. On the other hand, deficit means the country is reducing its net claims on the rest of the world. The current account is likely to be a cause of changes in other economic variables. Such as change in the real exchange rate, domestic and foreign domestic and relative price inflation(Pitbean,1998).It is important mention that current account deficit is not necessarily phenomena for country economic development. The country opportunity for investing the borrowed recourses is more important than paying back loans to foreigners because profitable investments wills generate are turn loans. In this case, A deficit in current account is likely to be followed by future surpluses. Similarly a surplus in current account is not undisputedly appositive phenomenon economic development. For example if the surplus is a result of low investment due to un certainty in the country it is likely to be followed by future deficits, the important goods predominantly consumer goods like cars and electronics, then it might be argued that deficit is more worrying then if the imports are plant and machinery that could be important be generating future export (Gebregzabher Tessfmariam2003, cited by abebayehu, 2013).A current account deficits means that the concerned country is increasing its indebtedness or reducing its claims on the rest of the world. If the country is a net creditor it can usually afforded to do this. Whereas, if its debtors the deficit may be regarded as a serious problems another point to bear in mind that if country has a large deficit due to a large government budget deficit. Then the remedial measures may lie in reducing government expenditure and or raising taxes. If however, the deficit due to high investment then there is a good chance that future export growth will reduce the deficit. Finally to the country has a current account deficit, high inflation and low economic growth then the problem is more worrying then it the deficit is a combined by high economic growth and low inflation.(Abebe Gizaw; 2003). 2.2 Approach to current account determination 2.2.1 Elasticity Approach The elasticity approach treats the current account balance as the sum of trade balance and net international investment income. Exchange rate domestic output and foreign output. In particular, it is uses to examine whether currency depreciation can help to improve the current account balance or no. Therefore the elasticity approach highly emphasizes the role of exchange rate and trade flows in current account adjustment. Consequently, relative international prices and their determinants were viewed as central to the dynamics of the current account (siewed, 1994 as cited in Abush Girma 2004).Alfred marshal (1968) and Lerner (1971) set the marshal Lerner condition that indicates whether devaluation improve or worsen the current account balance and condition postulates a stable foreign exchange market and important in balance of payment if the sum of elasticity of demand for export unity in absolute value however the sum of these to elasticity will have to be substantially greater than one to make devaluation a method of correcting the nations balance of payment. Devaluation will improve the trade balance if the devaluating countries elasticity for imports country export exceed on the other hand if the demand are less than one then devaluation will worsen the trade balance would weather helps not hurt, of the sum demand elasticity equal one.(salavator,as cited by abebayehu y,2013) . 2.2.2 Absorption approachThe absorption approach considers the current account balance as the difference between income and absorption or equivalently the difference between saving and investment. This approach is a macro economics approach it investigates the effect of exchange rate change on trade balance through the absorption channel ewer income and relative prices change by adjusting this approach states that if an economy spends more than what it produce i.e. Absorption exceed consumptions and spending. This approach argues that the exchange rate is an important for current account adjustment. (Krugman, 1987 cited by Abush grime 2004).Mathematically the absorption approach can be expressed as follows(Carbaugh,2009).

Let Y=C+I+G+(X-M)Y=A+BB=Y-ABy this expression suggest that the balance of trade (B) Equally the difference between total domestic output(y) and the level of absorption (A). Its national output exceeds the level of absorption; the economys trade balance would be positively. Conversely a negative trade balance suggests that an economy is spending beyond its ability to produce. 2.2.3 Inter temporal approach The inter temporal approach to the current account views the current accounts(CA) as the difference between domestic saving(s) and domestic investment (i): recall the previous national income identify on expenditures side:Y =C+I+G+X-M and we add the national income identify on the disposal side (how people earn income and allocate it to different uses).Y=C+S+T,(S-Saving, T-tax). This side at income is divided consumption savings and taxes, (sequentially, it may be more first. CA=S-I and focused on macro economics factors that determine the two variables, S and I. The intertemporal approach recognizes that savings and investment decision result from forward looking calculation based on the expected values of various macroeconomics factors. It tries to explain the current account development through closer examination of inter temporal consumption, savings and investment decision. This approach has achieved a synthesis between the trade and financial flow perceptively by recognizing how relative prices and how relative prices affects saving and investment decisions (Regoff, 1995).The inter temporal approach suggests that one could approach currents account determination by focusing more explicitly on the development of on in its counter part of the capital account. In an open economy, the capital account can be affects by country characteristics that reflect macroeconomic policies. According to literature, countries that are more open to international trade to attract more foreign capital to finance expenditures relative to income, contributing current account deficits. The degree of openness to international trade may have important for long run implications for over all current account positions (krugman,1987 as cited in Abush Girma,2004). 2.2.4 Monetary ApproachAccording to monetary approach currency devaluation exerts impacts on purchasing power levels and balance of payment. (Carbugh 2009, as cited by yamrot,2005).According to this approach, currency devaluation may induce a temporary improvements in nations balance of payment position. The surplus does not last forever, the currency devaluation leads to an increase in spending 9absorption) which reduces surplus. The effects of devaluation on real economic variables are thus temporary. Overt long run currency deprecation merely raises the price level. 2.3, Empirical Literature Review 2.3.1 Cross-country studies on current account (Khan and Knight 1983), Investigated the evaluation of the current account balance for 32 non-oil developing countries over the period 1973-1980 by using pooled times cross section data and adopting an ordinary least square estimation approach, their result indicate that both internal factors(the increase is fiscal deficits and the apperception in real effective exchange rate)and external factors, (the deterioration in terms of trade, the decline of economic growth and the increase in foreign real interact rates are important in explaining the deterioration of the current account of the countries under review).The effect of the exchange rate on exports depends on the price elasticity of export supply because the real exchange rate should incorporate the price effect on exports thus the higher the price elasticity. The move competition face exports of particularly commodities on the world market in general individual products have higher price elasticity then primary products, which causes industrial export to respond perfectly to change in real exchange rates. I.e. the effect of exchange rate on developing countries exports is ambiguous (Yishak, 2009).Many developing countries adopted import substation strategies to promote domestic economic development. Ethiopia was one of these during derge regime as such Ethiopias trade history has long been characterized by control system of region exchange, trade policy, imports, quotas, high tariffs, state controlled marketing of exports, export prohibits and export taxes. Thus trade policy become increasingly inconsistent with some of the macroeconomic policies followed by derge regime. (Derese,2001)Current account and real exchange rate; the effect of devaluation on the current account has been extensively addressed in traditional open macro economics. In mundele Fleming model devaluation will improve the tread balance if the marshal learner conditions are fulfilled (Devarla, 1998)Current account and openness on the issue of openness investigate the impact of trade restriction on current account. The studies suggest that when non tradable are intensive in import intermediary tariff act as a supply sock in this sector as a result resource will be reduce from non tradable to exportable and current account improves. When the input tariff leads to a contraction of the exportable sectors the net effect on current account is ambiguous. (Lopez and rodic, 1989)Real gross domestic product and current account as theoretically domestic economic growth accelerate demand for foreign goods and services and consequently deteriorates current account balance (Gebregzabher T, 2003 as cited by abebayehu y2012)Consumption and current account balance: When increase in consumption it leads to decreasing of net saving of individual (Abebe Gizaw, 2004). CHAPTER THREE

3.1 RESEARCH METHODOLOGYThe study used time series data from the period 1981to20010/11 on currents account balance, real effective exchange rate, real GDP, consumption and openness of country.The data for my study is obtained and collected from the national bank of Ethiopia (NBE), The statistical agency of Ethiopia (CSA), ministry of finance and economic development (MOFED), World bank (WB), research paper, books magazines and other related idea to the issue. These collected data are used to develop the model or inferential (econometrics) analysis and descriptive analysis. 3.2 Model specification Current account balance is usually measured the sum of the value of imports of goods and services plus the net transfer payment (net returns) on investment abroad minus the value of exports of goods and services where all these elements are measured in domestic currency (D.Salvatoer as cited by Abebayehu Y,2013).The specification of model shows the regression of Ethiopians current account balance on system of macroeconomic variables, so the research specifies the current account balance as auction of real effective exchange rate, real GDP, consumption and openness as follows.CAB=B0+B1REER+B2RGDP+B3OPP+B4CONS+EiWhere CAB=current account balance REER=Real effective exchange rate RGDP=Real growth domestic product Opp=openness Cons= consumption Ei=error termREER is expect to have positive correlation with current account balance, where there is devaluation of domestic currency is expect to improve CAB by encouraging and by discouraging import. Conversely REER is also expecting to have negative relationship with CAB, when there is appreciation of domestic currency. Because it is expect to encourage import and discourage export and it lead to current account deficits.RGDP is expecting to have a negative relationship with CAB through by encouraging import and bringing above deteriorate CAB.Consumption is expected to have negative association with CAB.Openness is expected to have negative correlative with CAB. 3.3 variables Description A. Dependant variable Current account balance (CAB)CURRENT ACCOUNT BALANCE IS PART of the balance of payment that contains international transactions on currency product good and services and other net income from abroad (D.salvatora ,1990 as cited by Abebayehu Y.2013) B Independent variables1.Real gross domestic product(RGDP),domestic economic growth accelerates demand for foreign goods and services and consequently deteriorates the current account balance an increase in domestic output growth rate has effects of expanding the current account deficits. The increasing of real GDP of Ethiopia which leads to increase import and export level of the country because of domestic income increases, the government support domestic industries to compute in the international market and the resident of the country prefer to import from abroad. The decrease real gdp discouraging both import and export but import of goods from abroad are huge in amount in addition to highly price. In contrast export goods of our county are primary products and low in volume I n addition to lowness of price.2.real effective exchange rate (REER):can affects the current account balance ,at the value of birr increase the price of goods and services in home country increases and become expensive price of goods and services. Therefore, is promoting import since the residents are unable to buy domestic products? With regard this exports are discouraged since, supplies are beneficial to sell goods and services domestically as higher price relative to foreign prices.Conversely, the decrease in value of birr result in price of goods and services are relatively low and the residents are willing to buy these domestic products while produces are not beneficial because their produces are cheap domestically they prefer to export goods and services to abroad since the relative price of goods are relatively high. Thus exports are encouraged one imports are discouraged.3. Consumption (cons): can affect the current account balance hince,when increasing consumption net saving of individual decrease .so I expect consumption is negative correlation with current account balance .4. Openness (opp): as the trade is more liberalized, the restrictions are less and it encourages import of the country. Regarding export high openness means reduce export.

3.4 TEST OF THE MODEL1. STATIONARYTheoretically time series is a collection of random variable (xt) such collection of random variables ordered in time is called stochastic process. Stochastic is said to be stationary if it means (x) and variance very(x) are constant over time and values depend on the distance or lag between two time periods and not on the actual time at which the covariance cov(x) is compute. (Guajarati, 1995).Augmented dickey Fuller(ADF)test is the most popular unit root test to differentiate weather the variables stationery or not and it indicates the order to integration of variables to make them stationery. If the test is non stationery using time difference lag(0), and so on tries to get stationery.(Maddala,1992)2. Test of multicollineartyVariance inflation factor measures of multicollnearty that shows the relationship between independent variables.3. Test of hetrosdasityBrush pagon-Godefary test is the common measures of hetrosdasity that shows non constant variance of non homogeneity enough the variables by compute the compute value of chi square are critical value of accept or reject the hypothesis.4. R2-Test Shows the performance of the explanatory variables jointly explainer the variation in the dependant variables and there is also the adjusted R2 that is the modification form of R2. 5. Autocorrelation If the assumption of the classical linear regression model that the errors or disturbances of entering into the population regression function are random or un correlated is violated, the problem is autocorrelation arises (Guajarati, 1995).The presence of autocorrelation the OLS estimators remain unbiased, consistent and they are no longer efficient. The remedy depends on the nature of interdependence among the disturbance. (Gujerti, 1995). 6. Co integrationEngle and Granger (1987) pointed out that linear combination of two or more non-stationery series may be stationery. If such stationery linear combination does exist the non stationery time series are said to be co integrated and the stationery linear combinations can be interpreted as a long run equilibrium relationships among the variables.When the Engle test only allows as a single co integrating relationships. And the granger tests multiple co integrating relationships.

CHAPTER FOUR 4. DATA ANALAYISIS AND PRESNTATION OF RESULT 4.1 PERFORMANCE OF CURRENT ACCOUNT BALANCE IN ETHIOPIACurrent account balance is the sum of trade balance and invisible balance (meaning that is the sum of net services (export- import) services plus unilateral transfer of payment9aid, donation, and remittance) plus interest dividend and profit. In spite of this fact, according to World Bank report the current account balance of Ethiopia shows deficit for the two consecutive years (in 2010, and 2011). Current account balance of Ethiopia is a deficit sight still. Ethiopia has been one of the fast growing non oil dependent countries in Africa and its economy is based on agriculture which accounts for more than 45% of the countrys GDP, 80% of export and 80% of employment. The highest source of the countries foreign trade are coffee, flowers, oilseed,, pulses and live animal as well as vegetable respectively. In spite of high growth rate of the country the current account balance is vicious circle due to periodic drought, soil degradation, and high population density, high level taxation, poor infrastructure and high income distribution inequality. As a result of the above mentioned and other additional factors the Ethiopian current account balance inclined to deficit balance account. 4.2.2 Net income in Ethiopia Net income refers to receipts and payment of employee composition paid to non residents workers and investment income (receipts and payments on direct investment, portfolio investment, other investment and receipt or reserve assets). As the net income of the country increases the people went to save or to consume luxury goods imported from foreign nations. With regarding to this the countrys current account balance can be affected and worsened deficit account balance. 4.2.3 Structured of imports It is often the case that a developing countries export destination largely corresponding with origins of imports. In the case of Ethiopia however, such corresponding which has been holding for long has started to lose significance as of the past few years.The import structure of Ethiopia can grouped into raw materials, capital goods consumer goods and oils and fuels take the lion share. In the year 2005/06to 2007/08 was rise and its share of GDP riches 30.4% from 16.7% in 1994/95. In over all case, capital goods are the major import items which have $1774.4million in 2007/08. Flowers, consumer goods, Sami finished and raw materials take the other shares in decreasing orders with a value of 1621.4, 1515.7, and 257.8 respectively as the same year. According to the journal report; the pre devaluation and post devaluation also the import of capital goods where the highest accounting for 34.7% and followed by consumer goods by accounting of 29% on average. The smaller import items are raw materials. It s not only small but also continued declining compare to the import items. This might shows the society depend on imported goods rather than consumed and used local manufacturing products by imported raw materials. So, this sharp in the total value of imports and this is contributing to worsen of current account balance of Ethiopia.Import of goods and service comprise all transaction between residents of a country and the rest of the world involving a charge off ownership from non residents to residents of a general merchandise goods sent for processing and repairs goods and service. The industrial products successes machinery, fertilizers, chemical and luxury products. Since, Ethiopia is one of the developing with hugest growth rate (double digit growth rate), this situation leads to the country to import large amount of products until the country can able to produces those goods and service. Due to this fact the countrys current accounts balance adversely affected and aggravated for the level of deficit account. 4.2.4 Structures and performance of Ethiopia export sectorsAs most of African counters Ethiopia is highly depends of agriculter.Even though is sides that more than 80% of the people depend up on agriculture and its output is not as expected because, agriculture sector characterized as traditional in absence that the method of agriculture used is what our great grandfather has been using, because of this and other rezones the output agriculture is more subsistence.During 2007/08 the largest market for Ethiopias export to Europe and it was accounting for 41.9% of the countrys export. Among the European countries, Germany which mainly imported coffee and flower were the largest buyers of Ethiopian goods. The Netherlands, the biggest destination for Ethiopian flower during the review period was the second largest market followed by Switzerland and Italy whose main imports from Ethiopian include leather and leather products, coffee as well as textiles and garments. The major export items to Saudi Arabic include coffee, live animals as well as meat and meat products. Coffee constituted the bulk of exports to Japan. Leaser and leather products, as well as oil seed made up large portion of export to china. Meat and meat products, pulses, live animals as well as fruits and vegetable were the major items exported to United Arab Emirates.On the Other hand, 14.2% of exports were detainable to African countries of which about 88.3% went to three neighboring like countries like, Somalia, Sudan and Djibouti. Chat was the principle export items shipped to Somalia followed by live animals. The major export to Djibouti include chat ,lie animals as well as fruits and vegetables, on the other hand Sudan mainly imported coffee, pulses and natural honey and bee wax. Mean while, about 1 5.3% of Ethiopias exports were to African nations in particularly to Somalia (41.8%), Sudan (30%) and Djibouti (12%) and Egypt (9%). Coffee pluses and live animals were exported to Sudan, chat and live animals and pluses to Egypt. The Americans accounted for 5% of Ethiopias exports of which 85%, mainly coffee and oilseed went to the united state of American (NBE, Third quarter 2010/11).Over time, Germanys and sauds shares remained almost stagnant, while that of Japan and Switzerland have been falling on average by 5 to 7.6% yearly. But export to Netherlands china and the united state increased substantially by 50.44 and 12 percent respectively.Since, Ethiopia export is dominated by agricultural products among that the most important merchandise export are coffee, leather and leather products and oilseeds respectively and others share their own accounts for the total export of the country. In spite of this fact, the export sector for goods are most venerable for weather condition and give less response for exchange rate devaluation as a result the export sector of Ethiopia not much significance contribution for current account balance of Ethiopia until now. Meaning that, the counters export volumes faced serious fluctuation from to time because of its export goods and mostly depend on agriculture goods which highly depend on climatic condition of the country.Table 4.1 Ethiopias export share to major trading partners Ethiopia is export share to major trading partners.Major trading partners2002200320042005200620072008Average

Germany10.712.212.614.113.010.110.711.7

Arabia8.37.56.96.57.07.37.87.3

Japan 8.39.210.27.78.76.53.97.1

Switzerland9.410.28.86.85.74.96.36.8

Italy 9.07.66.35.76.36.85.36.4

United state3.9 4.96.14.95.15.77.35.7

China1.71.52.48.87.25.75.25.3

Nether land0.91.23.13.94.56.67.64.9

Source: - Ethiopian costume Authority 4.2.5 Gross Domestic productThe Economic growth (gdp at constant price) EFY is estimated to be 11.4%. As per the estimates annual growth rates of the major sectors, i.e. agriculture, industry and their services were 9.0% 15.0% and 12% respectively and their shares out of the total GDP were about 41%, 13.4% and 45.6% respectively. Over the last eight consecutive years: during 1996-2003 EFY the economy has registered rapid growth. Accordingly, in this period the annual average growth rate of GDP was 11.4%. The agriculture, industry and service sectors annual average growth was 10.2%, 10.8%, and 12.9% respectively. In this period a slight structural change observed in the economy. The agricultural sectors share of GDP is decreasing and that of service sector is increasing. The industry sectors share more or less constant except in the last budget year where high growth is registered. With regarding to this, the Ethiopian economy as this time shows higher growth rate. But there is not well expanding and integrated of industry and home production of goods and services is not massive. Hence, there is a higher demand of foreign goods including large machineries for sustainable growth in the country until the infant phase of industry over come in the country until the infant phase of industry over come in the country and this situation brings adverse effect on the current account balance of the country. 4.2.6 Expenditure on gross domestic productAs per the estimate in 2003EFY:- consumption has registered about the remaining balance (83.1%) is attributed the private final consumption. Rate of investment has reached 25.5% of GDP and has registered 30.3% annual average growth over the last eight years, on the other hand, import has been 31.8% of GDP and has registered 32.1% annual average growth over the last eight years, on the other hand, imports has been 31.8% of GDP and has registered 30.1% annual average growth over the last eight years. As a result of higher trade deficit and it worsen current account balance of the country through trade deficit of the country. 4.2.7 Openness The trade liberalization of Ethiopia has almost affects the trade balances of the country and it also leads to affect the countrys current account balance negatively. As openness increase the import and export item of the country increase, however that increment is unbalanced due to their nature. For example from 2009 to 2010 there is relatively high increment in openness i.e. 14.6% and it results brought current balance deficit through high trade deficit. Standing from this fact the increasing of openness in developing countries particularly in Ethiopia it worsen current account balance deficit.

4.3 econometrics result and interpretation

The investigator used economics analysis or economic data in order to lend empirical support to the economic model and obtain numerical result and quantitative analysis. Since the important part of economic model is empirical model. In addition to descriptive analysis in order to capture the degree of influence of some of the determinant of current account balance as a result econometric analysis would be apply. The investigator (the research) used time series data to run regression covers from the year 1981 to2009/10 using time series data. In ordered to evaluate the trend of the determinants in the long run by affecting the dependant variables.The estimation of the model has been made using ordinarily square method (OLS) with different tests. If the model is not correctly specified the researcher encounter the problem of model specification error or model specification bias. The model may have omitted important variables or have used the wrong functional form. To aid us in determining whether the model is adequate on account or not we can use some of the following test. Test is useful in econometric analysis since, the data may face some error and which leads to wrong decision. 4.3 Result of OLS regressionCABCOEFSTD errorT-VALUEP-VALUE

RGDP-223621.794847.89-2.360.026

REER282133181933540.340.733

CONS55096.2325464.922.160.040

OPP3.563.011.180.247

CONS-6.574.631.420.167

R-Squerd (R2) =0.2266Adj R-Squared =0.1076 4.3.1 Long run model Long run model is a model which shows the long run relationship of curre nt account balance and explanatory variables. It can be represents from the above regression results as follows.CAB=6.57-223621.7RGDP+2821131REER+55096.23CONS+3.56OPP+Ei 4.3.2 Interpretation of the model The explanatory variables 1.Real GDPIt was a negative impact on the variable of current account balance with highly significance because of P-value. A unit ($1) increase in real GDP result to decrease $223621.7 amount of current account balance by other things remain constant. This may be in developing countries, when real income of the people increases they are encourage to consuming luxurious imported goods and it affects current account balance negatively.2. ConsumptionIn the same fashion, Consumption and current account balance Ethiopia are negatively correlated to with highly significant manner. Economically one unit increase in total consumption will lead to generate a current account balance by, $550926.23 by considering other things remain constant. This can be due to the case that, When consumption is increase it will lead bring decreasing net saving of the individual and it affects the current account balance adversely because saving is a primary condition for investment activities and if there is no investments takes place in the country it worsen the current account balance deficit by importing very simple finished products to the country. Openness It is found that, it has positive impact on the value of current account balance of Ethiopia and it is also insignificant from point view of p- value.Real effective exchange rateIt has also a positive effect on current account balance of Ethiopia with highly insignificance, because of p- value. I.e. p-value is less than 90%.

4.3.3 Test of the model4.3.3.1 Stationery test (unit root cost)Table 4.3 VariablesTest statistics1% critical value5% critical value10% critical value

Current account balance-5.056-3.716-2.986-2.624

Real GDP7.207-3.716-2.986-2.624

CONS4.793-3.716-2.986-2.624

REER24.022-3.716-2.986-2.624

OPP2.326-3.716-2.986-2.624

Based on the above stationery test most of the variables are stationery. Because, absolute value of T-statistics greater than the augmented critical value.Ramsey RESET test using powers of the fitted 4.3.3.2 HetrosedasticityHetrosdacitey has serious consequences for estimator. Based on our data the hetrosdacity is as follows Brush-pagan/ cook-Weisberg test for hetrosdacitey HO: Constant varianceVariables: fitted values of current account balance Chi(1)=23.1Prob>chi2=0.0000Interpretation: This means that our critical value chi is greater than the calculated value this means our data has a hetrosdasities with having problem. i.e.o.ooo