Foreign trade flow and the trade potential of Bhutan

Abstract

This paper provides an initial exploration and analysis of bilateral trade flow of Bhutan since there is almost a total absence of empirical analysis investigating factors determining the trade flow and trade potential of Bhutan. The study uses the gravity type models which have often been used to analyze trade flows between countries and trading blocs and have become one of the most successful tools for estimation of bilateral trade relations. The Gravity model applied in this paper provides some light on the actual trade patterns, characteristics and expected future trade potentials of Bhutan. The estimation results show that gravity regression fit the data of 17 major trading partners well and deliver precise and plausible income and distance elasticities with statistically significant t-statistics. The results indicate that Bhutan's trade is positively determined by the size of the economies, openness of economies of Bhutan and its trading partners and FTA with India; but influenced negatively by distance. The elasticity of distance and openness of Bhutan's economy is greater for the export model (relative to the import model). The bilateral agreement with Bangladesh is a determining factor for exports (but not for imports) from Bhutan to Bangladesh. The real exchange rate and Bhutan's GDP are found to be insignificant in both the models. The magnitude of Bhutan's export potential is highest with Bangladesh and India followed by other countries within the region and industrialized countries. Bhutan over-traded imports with most countries within the region but under-traded exports. We suggest that model improvement is needed to draw up more precise estimation and to draw more accurate conclusions. Further, Bhutan and India supports "natural trading partners" hypotheses.