Analysis of the Effect of Exports, Imports and Exchange Rates on Foreign Exchange Reserves in Indonesia

Abstract

Foreign exchange reserves support economic stability and international trade, increasing with exports and decreasing with imports, and should ideally cover at least three months of imports. This study aims to analyze the short-run and long-run dynamic effects of exports, imports, and exchange rates on Indonesia's foreign exchange reserves. Utilizing monthly time-series data spanning a decade from January 2015 to December 2025 (2015M1–2025M12) sourced from Bank Indonesia and the Central Bureau of Statistics (BPS), the analytical framework was executed within a Vector Error Correction Model (VECM) setup. The Johansen cointegration test confirms the existence of stable long-term equilibrium relationships among all investigated variables. The empirical findings from the Impulse Response Function (IRF) and Variance Decomposition (VD) demonstrate that foreign exchange reserves exhibit profound long-run endogeneity and structural autonomy, explaining up to 99.40% of their own forecast error variance by period 20. Conversely, external trade and exchange rate shocks predominantly operate in the short run before rapidly decaying. Import shocks impose an immediate liquidity drain, reaching -171 standard deviations, while exchange rate appreciation induces a negative asset-valuation effect. Furthermore, reserve shocks trigger a negative feedback loop in exports (-49 standard deviations) These results carry vital policy implications, suggesting that Bank Indonesia shouldinstitutionalize advanced sterilization frameworks, transition toward rule-based dynamic targeting, and actively promote Local Currency Settlement (LCS) to shield national buffers from external trade and currency volatilities.