Currency exchange rate policies are still a hot topic in economics. The key to dynamic development is shifting from low-tech to high-tech activities, and proper exchange rate policies may help. East Asian experiences, initially of the newly industrializing nations and most recently of China, are highlighted as examples of this diversification.
Contrast this with natural-resource-dependent countries' difficulties in diversifying their production and export patterns, due in part to the appreciation of the currency rate, and even the "premature deindustrialization" that some of them have experienced.
Exchange rate policies are critical in open economies because of both of these difficulties. We've revisited those issues in a recent study. Furthermore, we examine how real exchange rate (RER) policies may be used to promote economic growth, highlighting how optimum RER policies are reliant on the circumstances in which they are implemented, as well as the available policy tools.
Monetary Policy And Economic Growth Are Intertwined
Optimality requires competitive, stable, and effectively multi-sectoral markets. The best use of existing policy tools results in distinct RERs for sectors with varying spillovers while respecting the IMF's official commitment to avoid multiple exchange rates.
Any strategy that has the potential to redistribute the economy's resources to sectors with substantial learning spillovers might improve wellbeing. Subsidies and transfers to these industries are the best governmental response. The profitability of tradable sectors will rise if the RER is more competitive. Although an economy must have different sectors to be traded, some of them may not have learning spillovers. To ensure that the benefits of exchange rate policies are passed on to the correct sectors, i.e. those with the greatest externalities, taxing the sectors with no learning spillovers that get the implicit subsidy provided by the competitive RER is the best way to do so. As a consequence, a system of essentially several exchange rates is created.
The stability of the exchange rate is just as important as the level of the exchange rate. First, this affects the financial markets, including the Forex market, which is the world’s largest one. When the demand for a certain country's national currency increases, the exchange rate becomes more stabilized. Because of the plethora of opportunities that are offered by the Forex market, there are many people who start trading Forex. In order to become successful traders, Investors need to take several steps. One of the most important things to do is finding a reliable, trustful Forex brokerage as the market is decentralized and there are several unauthorized brokerages as well. In order to avoid being victims of such frauds and scams, investors need to find a licensed financial service provider.
To the extent that it is neither practicable nor prohibitively expensive to hedge currency swings in poor nations, this is of particular importance. New tradable industries need real exchange rate stability to reduce investment risk.
These assertions, however, should be viewed with some skepticism. Secondly, RER policies should be supplemented with conventional industrial strategies. In order to boost the elasticity of reaction to the currency rate, traditional industrial policies might be implemented. Many affluent nations (such as Germany and Japan), as well as many rising and developing countries (such as India and China), have long relied on the usage of national development banks to provide financing (Griffith-Jones and Ocampo 2018). As a part of this effort to improve learning sector competitiveness, investments in infrastructure, education, and R&D would also be beneficial
Secondly, there are trade-offs to be made by society in order to execute these policies. In terms of the native currency, a more "undervalued" RER entails higher prices for marketable products and services. A strategy of competitive RER results in decreased buying power in terms of tradable products now, with the goal of increasing purchasing power over time. Because of these trade-offs, not all parts of society pay the same "price" for quicker economic development, and it may not even be apparent which groups would gain in the future. As a result, reaching agreements among social actors to adopt competitive RER policies may be challenging.
Adopting an active exchange rate strategy may have negative effects on other nations, particularly if that country is a major participant in the global economy. In order to expand its 'learning sector,' the company may have to cut down elsewhere. In addition, the combined influence would be more restricted than if fewer economies adopted these policies, resulting in the fallacy of composition effects if many emerging and developing nations adopted them.
Competitive Real Exchange Rate Policies
Measures such as capital account restrictions and interventions in the foreign exchange market may be used in order to maintain the RER's competitive position. Measures influencing the private sector's ability to access foreign capital may have long-term consequences on the RER. Different tactics for participation in the foreign currency markets, and in particular, the establishment of foreign exchange reserves, may be utilized to enhance these policies in various ways. China's experience may be used to understand the processes at work. From 2002 to 2008, China's tradable sector saw fast expansion, and the yuan would have gained as a consequence if no governmental interventions had been implemented (due to the Balassa-Samuelson effect). However, capital account laws, as well as a significant increase in foreign currency reserves, were able to keep the currency from depreciating too quickly.
A number of countries have chosen to depend on interventions in the foreign exchange market rather than capital account regulations to maintain their fiscal balances. These kinds of interventions have become more widespread in many developing and emerging countries, particularly after the crisis that started in East Asia in 1997 and expanded to other emerging markets began to spread.
