اثرات جانبی تامین نرخ ارز، افزایش نرخ ارز و استهلاک القاء شده نرخ ارز

Within the context of a small open economy model, this paper examines the repercussions of induced currency depreciation. The results presented in this paper are based on a model with firm microeconomic foundations and which takes into account both the supply and demand-side effects of exchange rate variations. The distinguishing feature of the model is the role of exchange rate expectations. We consider three kinds of expectations; adaptive, extrapolative, and regressive expectations. We also perform several sensitivity tests based on these expectations. Our simulation exercise shows that the effect of induced currency depreciation depends largely on supply-side effects. In most cases, we find that currency depreciation results in (i) a fall in output, (ii) an increase in prices and (iii) an improvement in the balance of trade. In the absence of weak supply-side effects of exchange rates, we find that, if the Marshall–Lerner conditions hold, then depreciation of the home currency has a favorable effect on output but its effect on the balance of trade is negative.

In the present era of increased economic integration, currency exchange rate movements play a critical role in determining the behavior of both nominal and real variables, such as the balance of payments, inflation, output, employment and economic growth. Existing studies, such as Frankel, 1999, Summers, 2000 and Calvo and Reinhart, 2002, have argued that the choice of appropriate exchange rate regime, especially in the case of economies with few restrictions on the capital account, is an important determinant of economic stability.2Fisher (2001, p. 1) pointed out that Mexico, in 1994, Thailand, Indonesia and South Korea in 1997, Russia and Brazil in 1998, and Argentina and Turkey in 2000 suffered from international capital market-related crises and these countries at that time followed a fixed or soft pegged exchange rate regime. In contrast, owing to their reliance on flexible exchange rate policy, countries such as South Africa in 1998, Mexico in 1998, and Turkey in 1998 managed to avoid crises. It can therefore be argued that the choice of exchange rate regime has implications for the effectiveness of monetary and fiscal policies. For instance, in the case of an open capital account, an increase in the money supply leads to depreciation of the local currency, which increases aggregate demand through an increase in net exports. Similarly, tight monetary policy strengthens the local currency and results in a decrease in aggregate demand. Tight monetary policy helps in controlling inflation but it can exacerbate the current account deficit and also contribute to increase in unemployment.3 At present, a number of less developed countries (LDCs) and emerging economies are grappling with problems of external debt and a current account deficit. On average, the external debt to GDP ratio in LDCs is approximately 26% whereas the current account deficit to GDP ratio is between 4 and 5%. In the early 1990s, many Latin American and East European countries followed trade and capital liberalization policies as suggested by the Washington Consensus, which emerged from the interaction of the IMF, the World Bank, and the U.S. Treasury. The main aim of this consensus is to help LDCs to boost their economies in general and tackle external debt and current account deficit problems in particular. The Washington Consensus suggests a “corner solution,” that is, developing countries either absolutely fix their exchange rate with an international anchor currency or just follow a completely floating exchange rate policy. The main focus of the consensus is on the return of these economies to market fundamentalism, free from government intervention.4 The consensus has produced mixed results. China and India, two countries that have followed the Washington Consensus, have experienced rapid economic growth. The impressive economic growth experienced by China and India can also be partly attributed to their heavy investment in education, particularly in the field of science and engineering.5 In the aftermath of the Asian financial crises of 1997–1998, a number of countries endeavored to abandon their soft-peg exchange rate regimes and as Williamson (2000) suggests, under pressure from the IMF opted for “corner solutions,” either a completely flexible exchange rate or a hard peg. However, after a while those countries that retained the official tag of “free-floating regimes.” reverted to their pre-crises practice of maintaining soft-pegs to US dollars.6 In reality, exchange rate regimes can take a number of forms: for example, the conventional fixed peg, independent floating, soft-pegs, managed floating, horizontal bands, crawling peg, and crawling band, etc. (see Tiwari, 2003). In the distant past, less developed countries followed the IMF advice that stipulated weak currency exchange rates and balancing of the budget through taxes to avoid external imbalances and currency crises. However, in the case of many LDCs, a weak currency policy has not always eliminated or even reduced the trade deficit. For instance, starting from the 1950s, Pakistan devalued its currency from Rs 5.00 per US dollar to Rs 85.00 but the country is still facing acute internal and external imbalances. In fact, the debate concerning the desirability of devaluation has been going on for over 60 years. A number of theoretical and empirical studies have shown that the efficacy of devaluation depends critically on the stability of the system and the competing demand and supply-side effects of exchange rate policies. Most studies have concluded that currency devaluation may or may not be fruitful in the short run but it is neutral in the long run.7 The idea of currency devaluation, although practiced by many countries in the past, is once again gaining attention in both policymaking and academic circles. For example, there has been a debate in Ireland to quit the Euro and have the power to devalue the Irish pound (see O'Rourke, 2009). Some Central Banks around the globe have used monetary instruments to defend a predetermined or target exchange rate. In order to benefit from a weaker currency, some Central Banks have been engaged in the manipulation of exchange rates. For example, in the month of July 2009, China's foreign reserves exceeded US$2 trillion and her Central Bank was actively buying US dollars from the currency market to prevent further appreciation of the Chinese Yuan. At present, the monetary authorities in the US are being accused of taking deliberate steps that have resulted in depreciation of the US dollar through so-called quantitative easing. The main aim of this manipulation is to overcome the adverse effects of the global financial crisis. However, considering the international status of the US dollar and the fact that exchange rate is a multilateral phenomenon, economists are skeptical about the likely success of this policy. Whether induced currency depreciation would be of any help depends on a number of factors. For instance, trading partners closely follow each other's currency exchange rate policies, taking steps to protect their share in the export market. In recent years, countries such as Japan, Britain, Brazil, India, South Africa, Thailand, and South Korea have threatened to devalue their currencies. Switzerland is one of the nations to have been affected by recent devaluations. The Swiss National Bank (SNB) actively bought Euros between March 2009 to June 2010 to arrest further appreciation of the Swiss Franc to safeguard the interest of its exporters and to reduce unemployment.8 Regarding the exchange rate management debate, an important research outcome of the late 1990s and early 2000s is a challenge to the validity of the uncovered interest rate parity (UIP) condition. Economists such as Chinn and Meredith (2005); Froot and Thaler (1990), have concluded that uncovered interest parity (UIP), or forward rate unbiasedness, is rejected on empirical grounds. One of the conclusions of these studies is that agents do not form exchange rate expectations rationally. Similarly, Flassbeck (2004) argued that exchange rate expectations are not formed rationally as implied by Purchasing Power Parity (PPP) theory. Marey (2004b) concluded that exchange rate expectations might take the form of extrapolative expectations (both bandwagon and distributed lag expectations), adaptive expectations, and regressive expectations. The form of expectations is important when one is utilizing an intertemporal model, given that Central Banks regularly intervene in the foreign exchange market. Central Banks also intervene in the currency market to control inflation, unemployment and balance of payments problems.9 In order to avoid exchange rate volatility, emerging economies tend to follow a soft-peg exchange rate regime (Calvo and Reinhart, 2002). This involves exchange rate manipulation from time to time to achieve certain targets. This paper attempts to examine the effect of induced currency depreciation on key economic variables such as output, prices and balance of trade. We also consider and compare the effectiveness of a variety of exchange rate policies. The results presented in this paper are based on a model that has relatively firm microeconomic foundations. In our model, apart from different kinds of exchange rate expectations, we capture both the demand-side and the supply-side-effects of exchange rate variations. On the demand-side, on the one hand, exchange rate depreciation deteriorates competitiveness and helps in increasing net exports. On the other hand, however, exchange rate depreciation may have a Mundell effect i.e., it may cause an increase in real interest rates and have a negative impact on investment and consumption. Our model includes supply-side effects since we assume that home firms adjust prices in the event of both exchange rate changes and changes in the prices of foreign goods. Since exchange rate variations have both positive and negative impacts at the same time, the net effect, along with the form of exchange rate expectations, invariably depends on the magnitudes of competing effects. Since the model involves non-linear simultaneous equations, it is not possible to derive reliable analytical results. Consequently, we resort to calibration and model simulation. Our analysis reveals that a country can benefit from having an undervalued currency when (i) its net exports are exchange rate elastic and (ii) its exchange rate has either no supply-side or weak supply-side effects. Irrespective of whether or not net exports are exchange rate elastic, a country can benefit by having an overvalued currency if its exchange rate has strong supply-side effects. The rest of this paper is structured as follows. A theoretical model is presented in Section 2. Section 3 contains the result of model calibration, while Section 4 contains some concluding remarks and policy implications.

This paper utilizes an open economy macro model that has sound microeconomic foundations to study the effects of induced currency depreciation on key economic variables. Specifically, we focus on the impacts on equilibrium real output, prices and the balance of trade. The model explicitly takes into account exchange rate expectations in the context of the uncovered interest rate parity condition. Given that exchange rate expectations formed in real life are often not consistent with the idea of rational expectations, we consider three alternatives, namely, adaptive expectations, extrapolative expectations, and regressive expectations. Our model captures the impact of fluctuations in the exchange rate through three broad channels. On the demand side, the exchange rate affects net exports through changes in relative competitiveness. Similarly, exchange rate changes affect interest rate parity that in turn affects the aggregate demand for goods and services through a change in real interest rate. On the supply-side, exchange rate depreciation has a negative effect since domestic firms adjust their prices in response to changes in the effective prices of foreign firms. The model utilized in this paper consists of non-linear simultaneous equations that involve forward-looking variables. Consequently, an analytical solution cannot be derived. By making use of plausible parameter values, we present a model calibration exercise. The model calibration exercise reveals that depreciation of the nominal exchange rate results in depreciation of the real exchange rate. However, this policy leads to a higher real interest rate in the long run. We consistently found that the negative supply-side effect of exchange rate depreciation, along with the real interest rate effect, contributes to a fall in output and an increase in prices. In the absence of supply-side effects, we found that the fulfillment of the Marshall–Lerner conditions and the form of exchange rate expectations could play a significant role. Based on our results, two conclusions can be drawn. First, a country may benefit from having an undervalued currency if its net exports are exchange rate elastic (i.e., the Marshall–Lerner conditions are satisfied) and that the exchange rate has either no or weak supply-side effects. Second, a country may benefit by having an overvalued currency, if the exchange rate has strong supply-side effects, irrespective of whether or not the Marshall–Lerner conditions are satisfied. Realistically speaking, in the present era of globalization, the supply-side effects of exchange rate changes are present in all economies and these effects are virtually unavoidable. Accordingly, while our results appear to support a policy of overvalued exchange rates, it would be unwise to follow this policy without considering related issues. For example, in view of the fact that the exchange rate is a bilateral phenomenon, the success of an overvaluation policy adopted by a country is unambiguously contingent on the response of its trading partners. Moreover, in addition to investing additional resources to ensure that the exchange rate remains over and above its true market value, an overvalued exchange rate can result in some undesirable side effects. For example, Fisher (2001, p. 12) argued that in the event of domestic and foreign shocks, the Central Bank has to increase the interest rate to defend the overvalued rate which may hurt aggregate demand and also the banking system. One can also argue that pursuing a policy of an overvalued exchange rate can lead to a speculative attack on the currency that may force the monetary authorities to devalue the affected currency, which may result in a currency crisis. As far as keeping exchange rate below its market value is concerned, this may also be not a promising proposition either. Our results reveal that induced depreciation would work if and only if the supply-side effects of the exchange rate are not present and the Marshall–Lerner conditions hold. Both of these conditions are unlikely to be satisfied in developing countries. Moreover, as indicated earlier, the trading partners are likely to respond by devaluation and hence the net effect may only be an increase in prices and an increase in speculation. If a country is actively involved in the devaluation race and exchange rate expectations are consistent with the bandwagon type of expectations (commonly observed in countries that have been affected by currency crises), then currency speculators are likely to buy out the country's foreign exchange reserves, thereby forcing currency devaluation and the start of a balance of payment crisis. Moreover, our simulation results show that nominal devaluation results in real exchange rate depreciation. In this case, there is a possibility that the real exchange rate may fall below the nominal exchange rate, which may trigger a balance of payments crisis. In 1994, Mexico faced such a situation and the currency lost value very quickly and quite significantly.26 In such a case, the role of monetary policy is to forestall undue speculation and take ambiguity out of the system. Economists such as Calvo and Reinhart (2002) strongly support fixed exchange rates or a dollarization policy. However, Krugman and Obstfeld (2009, P. 498–500) argue that balance of payments crises may also occur under a fixed exchange rate regime. Their argument revolves around the fact that the means that are available to a Central Bank to defend a fixed exchange rate are rather limited. Krugman and Obstfeld have shown that an exchange rate expectations shock ultimately leads to devaluation of the currency thereby triggering capital flight. Similarly, Frenkel and Martin (2010), while analyzing the history of exchange rate regimes in Latin American countries, noted that real exchange rates have played an important role in the macroeconomic performance of these countries. Most of the countries have relied on fixed or semi-fixed exchange rate regimes and the main aim of such a policy was to maintain price stability. This policy, however, led to excessive real exchange rate appreciation that contributed to balance of payments and financial crises. Exchange rate manipulations that are aimed at achieving overvaluation, undervaluation or maintaining some desirable level and adjusting it overtime are examples of soft-peg regimes. Whether a country follow this sort of regime is strongly criticized by Fisher (2001, p. 7). He argued that countries with open capital accounts practicing a soft peg are more prone to financial crises. Furthermore, he argued that, “soft peg systems have not proved viable over any lengthy period, especially for countries integrated or integrating into the international capital markets.” Likewise, Obstfeld and Rogoff (1995) also argue that soft peg exchange rate regimes may not last long for any type of economy.27Frankel (1999 p. 2) concluded that, “no single currency regime is a panacea, rather, my overall theme is that no single currency regime is best for all countries and that, even for a given country, it may be that no single currency regime is best for all time.” Based on our review of existing studies and the results derived from our model, it can be argued that a policy of flexible exchange rates (after all flexible exchange rates are built-in stabilizers) may be relatively more effective in reducing the severity of balance of trade and unemployment problems.28 Instead of manipulating its currency to gain a comparative advantage, a country should focus more on increasing efficiency in production, product quality, product reliability and enhancing the overall quality of professional services. Other alternative strategies include finding and creating new export markets.