Working Paper: NBER ID: w5650
Authors: Ilan Goldfajn; Rodrigo O. Valdés
Abstract: This paper empirically analyzes a broad range of real exchange rate appreciation episodes. The cases are identified after compiling a large sample of monthly multilateral real exchange rates from 1960 to 1994. The objective is twofold. First, the paper studies the dynamics of appreciations, avoiding the sample selection of analyzing exclusively the crisis (or devaluation) cases. Second, the paper analyzes the mechanism by which overvaluations are corrected. In particular, we are interested in the proportion of the reversions that occur through nominal devaluations, rather than cumulative inflation differentials. We calculate the probability of undoing appreciations without nominal depreciations for various degrees of misalignment. The overall conclusion is that it is very unlikely to undo large and medium appreciations without nominal devaluations.
Keywords: exchange rates; appreciation; devaluation; international finance
JEL Codes: F31; F33
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| Overvalued currency (F31) | Unsustainable current account deficits (F32) |
| Unsustainable current account deficits (F32) | Corrections through nominal devaluations or adjustments in domestic prices (F31) |
| Degree of appreciation (D11) | Likelihood of requiring nominal devaluation (F31) |
| Overvalued currency (F31) | Corrections through nominal devaluations or adjustments in domestic prices (F31) |
| Degree of appreciation >= 35% (D11) | Unlikelihood of successful appreciation reversion (D84) |