Key Takeaways Currency devaluation involves taking measures to strategically lower the purchasing power of a nation's own currency. Countries may pursue such a strategy to gain a competitive edge in global trade and reduce sovereign debt burdens. Devaluation, however, can have unintended consequences that are self-defeating.
Compare Accounts. The offers that appear in this table are from partnerships from which Investopedia receives compensation. This compensation may impact how and where listings appear. Investopedia does not include all offers available in the marketplace. Related Articles. Monetary Policy Quantitative Easing vs. Currency Manipulation. Partner Links. Devaluation is the deliberate downward adjustment to the value of a country's currency relative to another currency, group of currencies, or standard.
Beggar-Thy-Neighbor Definition Beggar-thy-neighbor is a term for policies that a country enacts to address its economic woes that worsen the economic problems of other countries. Competitive Devaluation Competitive devaluation is a series of currency depreciations that nations resort to in tit-for-tat moves to gain an edge in international export markets. What Is the Net Exports Formula? A nation's net exports are the value of its total exports minus the value of its total imports.
The figure also is called the balance of trade. Manipulation Definition Manipulation is the artificial inflating or deflating of the price of a security or otherwise influencing the market's behavior for personal gain. Sudden Stop Definition A sudden stop is an abrupt reduction in net capital flows into an economy. Investopedia is part of the Dotdash publishing family. Your Privacy Rights.
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These choices will be signaled globally to our partners and will not affect browsing data. We and our partners process data to: Actively scan device characteristics for identification. The domestic rate of inflation, particularly the domestic price of home goods, has to be restrained. The supply response of exports to the change in their domestic price resulting from a devaluation is significantly different from the price stimulus of normal fluctuations in external prices.
Under normal conditions, external prices may fluctuate every year, so that an expected increase in export prices may be substantially discounted by producers in view of the possible fall in prices in the near future. Devaluation, however, gives certainty to the direction of change, and this change is usually significant. This implies that an increase in the domestic price of exports as the result of devaluation can be expected to have a greater effect on production than the same price increase under normal price fluctuations.
If, in addition, government takes supporting measures for export expansion, these reinforce the favorable expectations and producers are even more convinced that expansion of output will be profitable.
The measurement of the effects of devaluation on exports can in theory be approached by estimating the price elasticity of the supply curve. However, the common method of estimating the supply elasticity of exports by using data of the predevaluation period may not be accurate for the reasons mentioned above. Scarcity of appropriate data makes the task additionally difficult. For these reasons, three types of analyses have been combined in this paper to measure the effect of devaluation on exports.
The first step in the analysis is to compare the growth of exports before and after the devaluation by estimating the ten-year 3 trend growth rate of exports and comparing it with the three-year average annual growth rate after the devaluation. Since such a comparison may underestimate the effects of devaluation on exports if their growth rate started declining prior to devaluation, especially on account of currency overvaluation, the three-year average annual growth rate before the devaluation is also compared with the three-year average after the devaluation.
Also, the comparison of growth rates of exports value may not be an accurate indicator, since export receipts of the devaluing country can be influenced not only by supply factors but also by such factors as world demand for the major exports of the devaluing country. For example, if world demand for exports had increased, export receipts of the devaluing country could have increased even without the devaluation.
Likewise, if world demand for exports had decreased, export receipts could decline in spite of the devaluation, although the fall in export receipts could have been greater without the devaluation.
To take into account the effect of world demand on export receipts of the devaluing country, the import demand functions were estimated for 14 industrial countries on the basis of ten yearly observations before devaluation.
For each industrial trading partner, the gain in export earnings after devaluation was measured as the difference between actual export earnings for the three-year period after the devaluation and the estimated value of exports based on these import equations. This approach recognized the possible effects of changes in the level of economic activity of the importing countries on the exports of the devaluing country.
Because no appropriate import price index was available for the industrial countries, an assumption was made that the ratio of prices of their imported goods to the gross national product GNP deflator remains constant.
When this assumption does not hold, the import demand analysis will not give the expected results. In such cases, two types of market share analyses were used.
When the trend values were statistically significant, the theoretical values of market shares for the three-year period after the devaluation were estimated by extrapolation and used to estimate the theoretical values for exports, which were then compared with the actual values during the same period.
When a trend could not be identified, the three-year average market share before devaluation was used to project the theoretical values for exports after devaluation.
The advantage of market share analysis is that it takes into account the effects of both prices and income changes in the importing countries. Its shortcoming is that the market shares need not remain constant when the level of economic activity of the importing countries changes from year to year.
The underlying assumption for the market share analysis is that the various impacts from the sides of demand and supply that cannot be measured directly would have continued to affect the market share in the absence of devaluation in the same way as they did during the predevaluation period.
Imports of the devaluing country are affected by devaluation in several ways. Higher domestic prices of imports affect demand adversely and encourage substitution of domestic for imported goods, both in production and consumption. On the other hand, the higher income from the expansion of export and import substituting industries stimulates the growth of imports.
A third aspect closely related to the second and often important for developing countries is the increase in imports of capital goods. An upsurge in investment activity because of higher profitability in external sectors after devaluation would lead to an upsurge in imports of capital goods.
While the price effect tends to reduce imports, the other two effects tend to increase them; the net effect depends on their relative magnitudes. However, in most of the developing countries the price elasticity of the demand for imports may be small, and import substitution may be limited in the short run; therefore, devaluation may lead to an increase in imports rather than to a decrease.
The behavior of imports after the devaluation also depends on the monetary-fiscal and wage policies in that period. Another relevant factor is that a significant portion of imports may be subject to restrictions. The changes in prices and incomes may not have the expected effects upon imports, if devaluation is accompanied by an exchange and trade reform involving relaxation of existing restrictions.
For all these reasons no attempt was made to estimate the predevaluation import function and to measure the effect of devaluation on imports. Instead, a comparison is made of the average growth rates of imports before and after devaluation. The trend of imports over the ten-year period before devaluation is estimated, and the movement in imports after devaluation is analyzed, by studying deviations from this trend.
Also, imports might have started to increase at a lower rate than the ten-year annual average rate a few years before devaluation due to declining or slowly growing foreign exchange receipts from exports and restrictive measures to reduce balance of payments deficits. Therefore, the three-year average growth rates of imports in the pre-devaluation period are also compared with the predevaluation ten-year average and the three-year average of the postdevaluation period.
In selecting devaluations for analysis, the goal was to include the experience of as many nonindustrial countries as possible during the s.
Accordingly, the commodity structure of trade, particularly exports, shows great variation. The more-developed countries export a greater proportion and range of manufactures, for which world demand is growing rapidly, prices and product competition are good, and production can be quickly expanded, particularly when financial policies assist in transfer of resources to the external sector. On the other hand, small countries relying primarily on exports of agricultural commodities have no influence on the world market price and cannot escape the instability in their export earnings caused by price fluctuations and by variations in domestic output caused by weather conditions.
Moreover, the possibility of increasing the supply of agricultural commodities is often limited in the short run, except when large stocks exist. Thus in the case of tree crops such as coffee, cocoa, and tea, it takes a few years between planting and increased production.
Even when the gestation period is shorter for example, cereals and fibers , additional output through substitution of acreage for some other product is often limited, especially in the short run.
It is true that supply may be expanded by increasing productivity through improved techniques, but to realize this potential, market incentives need to be supported by development policies to facilitate the adoption by farmers of more efficient techniques. And, even then, the supply response is likely to be realized over the medium-term rather than soon after the devaluation.
Consequently, in the short term, changing weather conditions and fluctuations in world market prices tend to be more identifiable influences on export earnings from primary agricultural commodities. For minerals, the demand in importing countries tends to be the important determinant of export volume in the shorter term, since supply is elastic up to a certain point.
Moreover, the price elasticity of demand also varies considerably among the primary commodities, thus influencing the degree of price fluctuation. Finally, the proportion of traditional primary products in total exports varies widely among the countries studied—in over two thirds it exceeded one half, and in a few it was over 80 per cent. Thus, one would anticipate considerable variation among countries in the degree and speed of the response of export receipts to exchange rate adjustments.
There is also a great deal of diversity in the circumstances surrounding the devaluation. The cases dealt with in this paper are divided into three groups: A independent and discrete devaluations, covering 19 countries and 22 devaluations; B 14 countries that devalued with the United Kingdom in and by the same proportion; 5 and C 14 countries that devalued with France in and by the same proportion.
Group A countries devalued to correct an existing fundamental disequilibrium, whereas many countries in Groups B and C devalued to forestall an unwanted appreciation of their currency. Moreover, within Group A there is great variation in 1 the causes of the fundamental disequilibrium and its duration before devaluation, and 2 adaptations in the exchange and trade system accompanying the devaluation, as well as the supporting financial policies after devaluation.
Finally, the impact of a devaluation on trade flows of the devaluing country is also governed by the size of the devaluation and by exogenous developments in the rest of the world—for example, level of economic activity in importing countries, exchange and trade policies of competitors and customers, and so on. In nearly all Group A countries, devaluation was accompanied by reform and simplification of the exchange and trade system, including measures to liberalize imports.
Several devaluations in the early s, especially those connected with establishment of an initial par value, were concerned as much with rationalizing the exchange and trade system to improve resource allocation and economic growth in the longer term, as with raising immediately the prices and profitability of exportables and import substitutes in order to strengthen the balance of payments in the shorter term—for example, Costa Rica, Ecuador , Iceland , and Israel In other cases, in the late s, devaluation was preceded by a prolonged period when the currency was overvalued and balance of payments problems had required, in the absence of exchange rate adjustment, intensification of import restrictions and special supports for exports for example, India, Sri Lanka, and Turkey.
Here, too, devaluation was accompanied by a major reform of the exchange and trade system. In several other cases, devaluation was preceded by two or three years of large fiscal imbalances leading to monetary expansion, price increases, and balance of payments difficulties—for example, Burundi, Ecuador , Peru, and Rwanda; therefore, success of the devaluation could be assured only by correcting the underlying fiscal and financial causes through an effective stabilization program.
Finally, in a few cases, all among the nonindustrial developed countries, devaluation was relatively uncomplicated—for example, Finland and Iceland After some years of excessive wage-price increases had weakened the international competitiveness of the economy, a fundamental disequilibrium had clearly emerged and the currency was devalued to correct it.
In most of the Group A countries the predevaluation exchange and trade system included such features as explicit dual or multiple exchange rates for a limited range of transactions, exchange premiums and taxes, various ad hoc special credit and fiscal incentives to exports, temporary import levies such as a stamp tax or an across-the-board tariff surcharge, and administrative restriction of imports.
Such measures have the same economic effect as a partial devaluation of the currency, since they result in higher domestic currency prices for exported and imported commodities. Thus realignment of the domestic prices of tradables that is, exports, exportables, imports, and import substitutes and nontradables was already set into motion before the formal devaluation itself; 6 moreover, devaluation was often accompanied by measures to spread over time its impact on prices, such as either temporary subsidization of essential imported goods to avoid hardship to consumers or temporary taxation of traditional exports to absorb part of the incremental profits as in Finland and India.
Such transitional measures spread the domestic currency price effect of the devaluation into the period following the devaluation.
Furthermore, when export earnings are primarily from one or two agricultural commodities, the producer price is frequently set by the authorities either through market intervention or through direct monopoly of procurement for exportation for example, coffee in Burundi and Rwanda, cotton in Egypt, and cocoa in Ghana. This producer price did not necessarily change in proportion to the devaluation of the currency and often changed at other times, both before and after devaluation. Thus, for all these reasons, the timing and the size of the price effect on exports could be different from the timing and the size of the devaluation; and consequently, the impact on exports and imports would also be spread over time both before and after the devaluation.
However, much of the relative price alignment does take place around the time of formal devaluation, and this is why the quantitative analysis below of trade flows, centered on the devaluation year, can be expected to indicate the general effectiveness of the price mechanism in influencing exports and imports. If important trading partners and competitors also devalue at about the same time, 7 the impact on the domestic currency prices of tradables is diluted and the impact on exports and imports is also less.
Moreover, after the devaluation, if domestic costs and prices are permitted to rise faster than those of trading partners and competitors, the price effects of the devaluation are eroded—the potential competitive edge in export markets and the price incentive for reallocation of resources from home goods toward tradable goods are reduced.
Hence, maintenance of price stability in support of a devaluation is important in determining its effective impact; in the cases examined, there was varying success from such supporting policies. Even when the devaluation does bring about the anticipated change in relative prices of traded and home goods, the market incentives may not result in a major reallocation of resources unless they are supported by development policy—including, for instance, an investment strategy with emphasis on expansion of exports.
Other institutional constraints can substantially neutralize or reduce the expected impact of an exchange rate change on relative prices of traded and home goods before it reaches those economic units whose behavior it is intended to influence; and even after having reached them, the effect on trade flows may be small. When both volume of trade and prices are governed by international commodity agreements for example, coffee and tin, until recently , an exporting country is not free to expand its share of the market through price competition.
Devaluation could lead to an increase in export volume and value over what it would have been only if the country would otherwise have been unable to fulfill its full export quota under the international agreement. Petroleum is a somewhat similar example of this, since the market share of each producing country and the export price have been, as recently, negotiated collectively between the producing countries on the one hand and international petroleum companies on the other, or prior to that, between individual countries and one or more international petroleum companies.
Important instances of this are the international arrangement governing trade in cotton textiles and import restrictions on agricultural products in many countries. In assessing the quantitative evidence presented below, it is important to bear in mind this great diversity of circumstances surrounding the individual devaluations.
Such a broad survey of a cross section of devaluations gives a general view of how exports and imports have fared in the aftermath of devaluations amid diverse settings of economic structures, policies, and exogenous developments, and it leaves an overall impression of the effectiveness of exchange rate policy in the past in influencing trade flows of nonindustrial countries.
This section deals with 22 devaluations in 19 countries Table 1 , ranging in nominal devaluation from The comparative analysis of trade flows before and after devaluation deals with exports and imports but gives more attention to exports, partly because in many nonindustrial countries, merchandise export earnings are a major determinant of imports since the liberality with which the import regime is administered by the authorities is governed by their foreign exchange availabilities.
In the rest of this section, first some quantitative indicators of the comparative behavior of trade flows before and after devaluation are presented and discussed. This is followed by a brief discussion of the experience in a few individual cases of devaluation. Three major quantitative indicators of export performance by devaluing countries are discussed: 1 the average annual growth rate of exports during three postdevaluation years, 10 compared with their growth rate during the three preceding years and also with the predevaluation medium-term trend growth rate Table 2 ; 2 the average annual growth rate during three years before and after devaluation of the export volume of major export commodities in various countries Table 3 ; and 3 adjustment of the postdevaluation exports to 14 industrial countries for the growth rate of the import markets in those countries Table 4.
The examination of import performance is limited to a comparison of growth rates before and after devaluation Table 5. The diversity of economic conditions and the weak data base dictated the choice of quantitative indicators. A simple framework can rationalize the comparison of rates of growth before and after devaluation.
The observed trend growth rate of, say, exports in the predevaluation period can be regarded as the final outcome of a variety of factors influencing the demand for and supply of exports. If all these factors, with the exception of currency devaluation and the associated policies, were simplistically assumed to continue to operate unchanged in the post-devaluation period, then the difference between the actual growth rate of exports in the postdevaluation period and the predevaluation trend growth rate could be attributed to the devaluation and associated policies.
The assumption is, of course, a heroic one and renders any conclusions highly tentative; the main difficulty is that in practically each devaluation a number of special factors are in operation 11 before or after the devaluation and tend to influence export behavior.
However, it is hoped that since a large number of cases are being examined, these special factors would tend to cancel each other, and so the general conclusion from the comparison should be of interest.
However, one obvious special factor can be expected to be present on a systematic basis. Especially in large, discrete exchange rate changes, the currency is apt to have been overvalued in the immediate predevaluation period, with some impact on exports and imports. Since the implication is that, in the absence of devaluation, exports would have grown at a rate lower than the predevaluation medium-term trend, the predevaluation three-year average growth rate was also calculated.
To test this, the medium-term trend growth rate was compared with the growth rate during the three predevaluation years; in about two thirds of the cases, exports had slowed down to a below-trend rate of growth before devaluation Table 2.
This reflected in a large measure the emerging overvaluation of the currency and its adverse effects on export performance, but in some cases it was compounded by an adverse, exogenous, and reversible development—such as, for example, a poor crop of the main export commodity or a decline in its world market price.
Not infrequently a fundamental disequilibrium is identified, and devaluation of the currency precipitated, when a turn of events adverse to the balance of payments is superimposed on a weakening basic balance of payments position. Turning to export performance in the postdevaluation period, in almost all cases export earnings grew at higher rates than before.
Thus, of the 20 instances in which it was possible to estimate a medium-term trend, exports grew at a rate faster than the trend in 17 cases and the postdevalaution growth rate of exports was approximately equal to the trend rate in the 3 others Israel, Peru, and Sri Lanka. If postdevaluation export performance is compared with that in the immediate three predevaluation years, the above overall impression from comparison with predevaluation trend growth rate is reinforced.
In 19 out of 21 cases, there was significant improvement; in Tunisia the performance was approximately the same, and only in Israel, as discussed above, was it worse. However, although this result agrees with a priori expectation, it would not be appropriate to attribute all of the improvement to the exchange rate change. For, as mentioned above, part of the improvement would in some cases be simply a recovery, which would in any case have occurred, from the predevaluation trough in export earnings.
The growth rates of the export volume of selected primary commodity exports during three-year predevaluation and postdevaluation periods are presented in Table 3. The evidence of supply response is less unequivocal here but still fairly persuasive. Of the 24 selected commodities, 13 showed a faster rate of growth after devaluation but 7 experienced a slowdown, caused in many instances by special factors. In considering the relationship between devaluation and the supply of primary commodities for export, it is necessary to note that in many cases the domestic currency prices received by producers did not increase immediately by as much as the percentage of the devaluation because export taxes were imposed—for example, Burundi, Ecuador , India, the Philippines , and Sri Lanka.
But, after allowing for this and for annual fluctuations in production caused by the weather and other factors, the evidence from this broad cross section suggests the prevalence of supply response. The response is strengthened if better price incentives are supported by extension and development policies, but this aspect cannot be adequately captured from the experience of three years summarized in the quantitative indicators presented here.
The next step of the analysis was to identify the role of demand from importing countries in influencing the postdevaluation export performance, since the actual growth in realized export earnings would be a combination of supply response to devaluation and to the growth of demand in the importing countries.
Hence, the postdevaluation export performance was adjusted for the growth of import demand in 14 industrial countries, 15 which account for a large proportion of the total exports of most of the countries examined.
Method 3 was used only if 1 and 2 did not yield a good fit; if both 1 and 2 were statistically significant, the method that made greater a priori economic sense was selected. In practice, in many cases, though with important exceptions, approach 3 , that is, simple extrapolation of predevaluation market share, had to be used.
Some countries were excluded for lack of usable data. The results of this adjustment for the growth of import demand Table 4 show the difference between actual exports of each devaluing country in the three postdevaluation years to the group of 14 industrial countries and its projected exports, expressed as a percentage of projected exports. Thus, a positive difference shows that export performance improved after devaluation even when adjustment is made for the growth of demand in the industrial countries; and a negative difference implies that, when the growth of import demand is taken into account, exports failed to keep pace with it even though they might have done better in relation to the predevaluation period.
The last two columns in Table 4 show that in 9 out of 18 cases there was an improvement by this criterion and that in the other 9, there was a worsening. However, an important qualification needs to be borne in mind in interpreting these results. Generally speaking, the exports of nonindustrial countries as a group grew at a slower rate in the s than the imports of the industrial countries as a group and, as a consequence, the share of nonindustrial countries in world trade declined. The major reason is that trade in primary commodities has been growing at a slower rate than trade in industrial products, the discrepancy being even more pronounced if petroleum exports are excluded.
Thus, when an allowance is made for this element of bias in the import demand adjustment, the evidence becomes more favorable to the existence of positive response of export earnings to devaluation. Sometimes there were special reasons. The exceptionally large decline in Tunisia per cent was due mainly to the expiration in September of a trade agreement with France granting preferential entry to Tunisian exports, particularly wines.
Tunisian wine exports to France, which had increased rapidly until then, suffered a sharp decline thereafter.
This was further compounded by a drought that affected the olive crop and olive oil exports in Turning to the response of imports, about half the cases had about the same growth rate of imports in the three-year period before devaluation as the predevaluation medium-term trend growth rate; the other cases are divided about evenly between increases and decreases Table 5.
Moreover, excess demand for imports created by the growing overvaluation of the currency is held in check through intensification of import restrictions or through a slower rate of economic growth. In the postdevaluation period, in more than half the cases 12 out of 20 the growth rate of imports actually exceeded the predevaluation growth rate because of an interaction of several influences. Higher export earnings and larger capital inflows from abroad due to greater confidence in the currency at its more realistic exchange rate raise foreign exchange availability and permit a larger volume of imports.
At the same time, import liberalization measures associated with devaluation, the higher rate of real economic growth made possible by the better allocation of resources, and the growth of exports and import substitutes combine to produce a higher demand for imports.
These influences tend to outweigh the restraining effect on imports of their higher domestic currency prices. If the devaluations are arranged according to the average growth rate of exports in the three-year postdevaluation period see Table 2 , in 4 cases it exceeds 20 per cent, in 5 cases it is per cent, in another 5 cases it is per cent, in 7 cases it is per cent, and in 1 case it is negative.
A brief survey is made here of the experience of a few of the cross section of countries examined. This draws attention, inter alia, to the particular exogenous developments that played a role in several instances. Countries with the highest postdevaluation growth rate over 20 per cent are Iceland , Korea, Mali, and Turkey.
During this decade, there was another large devaluation in and subsequent depreciation of the currency in smaller steps. Of great importance also was a large and increasing inflow of capital from abroad, supplementing domestic resources and facilitating implementation of the development program.
A recovery was to be expected in any case. The and devaluations in Iceland were a necessary condition for the recovery, since rising costs had impaired the profitability of the fishing industry so that in it had to be given subsidies amounting to over 11 per cent of total government revenue in that year. The devaluations, by restoring profitability to export industries, permitted the elimination of this strain on the budget and created incentives to bring about new investment and needed structural changes in the export sector.
The increased income helped to stimulate import demand. The substantial import decline in see Table 5 was largely due to the effect of the devaluations on real, personal, disposable income.
Nevertheless, the devaluation encouraged increased supply of the main primary export commodities cotton, tobacco, and hazelnuts and made possible the accelerated growth of manufactured exports by raising their profitability. The greatest impact of the devaluation was on remittances from Turkish workers in Western Europe, which rose sharply to a high level. The resulting increase in foreign exchange availability, together with the liberalization of the import system after the devaluation, facilitated the sharp growth of imports required by the acceleration of domestic economic activity.
Part of the increase seems to be due to the incidence of unreported exports in the predevaluation period, which tended to go through official channels after the devaluation, and the increases in producer prices. In Ghana a major factor contributing to higher export earnings was a 68 per cent increase in export unit value from to ; the volume of cocoa exports in was only slightly greater than in There was also a significant increase, compared with the predevaluation years, in export earnings from noncocoa exports, particularly nontraditional products, and the more realistic exchange rate contributed to this.
Imports declined sharply from the peak in , because of intensified restrictions, to reach a low level in ; they declined further in despite liberalization measures, as investment expenditures were reduced imports of consumer and intermediate goods increased.
But from , imports began to rise in response to greater foreign exchange availability, accelerated economic activity, and liberalization measures. This situation had led to a considerable loss of export earnings from agricultural goods, because of both supply problems and smuggling. The devaluation in June was accompanied by a reform of the exchange system and a comprehensive stabilization program designed to restore conditions necessary for the recovery of production, investment, and exports.
The post-devaluation years were marked by a steady increase in the volume of both mining and agricultural exports. In addition to these favorable domestic developments, export earnings rose even more, due to a 48 per cent increase in the price of the principal export product copper , from to In Costa Rica, Egypt, Finland, Peru, and the Philippines , the postdevaluation growth rate of exports was in the per cent range.
It was precipitated by substantial current account deficits, leading to loss of reserves, and was preceded by a profit squeeze in the export sector. Exports responded quickly and were aided by an acceleration in economic activity in the industrial countries and in their imports. The postdevaluation stabilization policies kept domestic price increases within bounds and facilitated the transfer of resources to the external sector, ensuring success for the devaluation.
In the Philippines , the devaluation was preceded by a period of low export earnings accompanied by reform and simplification of the exchange system and followed by rapid growth of exports. Traditional exports lumber and coconut products responded well to the exchange rate change, but minor and nontraditional products also received an export impetus. In Peru, large budget deficits for two years and resulting financial difficulties led to capital flight, a loss of confidence in the currency, and devaluation in It was followed in March by prohibition of the importation of many articles and in June by the imposition of a 15 per cent import surcharge.
In the postdevaluation period, export earnings, which had begun to slow down, recovered and reverted to the medium-term trend annual growth rate of around 11 per cent.
Consequently the trade balance made a quick and large recovery, though confidence returned only after an effective stabilization program with strong fiscal measures was adopted in mid Below are major points to note about a weak currency;.
There are ways to gauge the strength of a currency to determine whether it is weak or strong. Generally, weak currencies are attributed to weak economies, it is impossible for a country with a robust economy to have a weak currency, that will be an irony.
Weakness in the currency of a nation can trigger inflation, retarded economic growth and deficits in the country. Also, nations with weak currencies often experience cheaper exports as compared to imports. Quite a number of nations have experienced weak currencies at one time or the other. Weak currency was experienced in China in , this was deliberately injected.
The government made intervention that weakened the Chinas currency after a long period of enjoying strong currency. Moreover, the imposition of sanctions can have an immediate effect on a country's currency.
As recently as , sanctions weakened the Russian ruble, but the real hit was in when oil prices collapsed and the annexation of Crimea set other nations on edge when dealing with Russia in business and politics. Perhaps the most interesting recent example is the fate of the British Pound as Brexit neared. The British pound GBP was a stable currency, but the vote to leave the European Union set the pound on a very volatile path that has seen it weaken in general as the process of leaving plodded along.
Like most assets, a currency is ruled by supply and demand. When the demand for something goes up, so does the price. If most people convert their currencies into yen, the price of yen goes up, and yen becomes a strong currency. Because more dollars are needed to buy the same amount of yen, the dollar becomes a weak currency.
Currency is, after all, a type of commodity. For example, when a person exchanges dollars for yen, they are selling their dollars and buying yen. Because a currency's value often fluctuates, a weak currency means more or fewer items may be bought at any given time. A weak currency may help a country's exports gain market share when its goods are less expensive compared to goods priced in stronger currencies.
The increase in sales may boost economic growth and jobs while increasing profits for companies conducting business in foreign markets. For example, when purchasing American-made items becomes less expensive than buying from other countries, American exports tend to increase. In contrast, when the value of a dollar strengthens against other currencies, exporters face greater challenges selling American-made products overseas.
Currency strength or weakness can be self-correcting. Because more of a weak currency is needed when buying the same amount of goods priced in a stronger currency, inflation will climb as nations import goods from countries with stronger currencies. Eventually, the currency discount may spur more exports and improve the domestic economy, provided there are no systematic issues weakening the currency. In contrast, low economic growth may result in deflation and become a bigger risk for some countries.
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