Real Exchange Rate Undervaluation and Economic Development

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Date Submitted: 05/23/2012 09:40 AM

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Real exchange rate undervaluation and economic development

Real exchange rate undervaluation and economic development

Everyday, millions and millions of people go to work to earn their

corresponding pay checks with the hope that it will be sufficient enough to support

their families and pay their expenses. Many of them – hopefully most of them –

manage to do just fine and at the end of the month there is no big problems in their

‘family finances’. But the minority of them truly comprehends that the picture is, in

fact, much bigger than that. Behind these individual efforts (or maybe the other way

around) there are big corporations, industries of many types, importers, exporters,

governments and thousands of policymakers all over the world, altogether making the

economy move and develop. Nevertheless, the exact ingredients that are needed in

order to promote this ‘economic development’ are, actually, quite uncertain. As a

matter of fact, every now and then, different economists come up with new theories to

show which is truly the key policy that promotes and generates economic growth in a

nation. Some may say it all comes down to technology and innovation. Others, on the

other hand, are more likely to support strong institutions and, in general, organizations

that can help a government make things more efficient and reduce the wastefulness of

resources. And others believe it basically depends on promoting exports and the

growth of the manufacturing sector. There are many more theories and probably there

will be more in the future, but there is one in particular that seems to be – in the eyes

of this humble writer – the one worth analyzing nowadays.

It is generally accepted that overvaluation of a currency causes negative

consequences to an economy. An overvalued exchange rate produces different

problems associated with macroeconomic instability like “shortages of foreign

currency, rent-seeking and corruption, balance-of-payments...