The Impact of Currency Misalignment on Trade Balance of Emerging Market Economies

This study is an attempt to examine the impact of currency misalignment on the trade balance of emerging market economies from 1980 through 2016. It firstly measures the equilibrium RER and corresponding misalignment series of 21 EMEs separately adopting a single equation approach and then includes them in the trade regression together with undervaluation and overvaluation to estimate the dynamic relationship between the trade balance and real exchange rate misalignment employing the system generalized method of moment estimation approach. The study suggests that, being a composite series of undervaluation and overvaluation, higher real exchange rate misalignment helps recover trade imbalances. It also identifies that undervaluation improves trade balance, while overvaluation cuts it down. The study identifies that the misalignment series of RER for most of the EMEs are substantially dominated by overvaluation episodes, and hence the opposing impact of undervaluation and currency misalignment on the trade balance of EMEs is not surprising. From the policy perspective, competitiveness achieved through currency movements helps emerging market economies not only to improve trade balance but also to withstand vulnerability that arises from huge external borrowings creating a strong external payment position.

Does currency misalignment matter for economic growth? – Evidence from Turkey

PurposeThe study mainly aims to examine the currency misalignment of Turkish lira and evaluate if it has an impact on economic growth of Turkey.Design/methodology/approachIt relies on Johansen cointegration technique for measuring currency misalignment relying on single-equation approach and the autoregressive distributed lag (ARDL) approach to evaluate how misalignment affects economic growth. The sample period covers from 1980 to 2016.FindingsThe study identifies that terms of trade, relative productivity differences, net foreign asset, investment and trade openness determine the equilibrium REER of Turkey, and the degree of currency misalignment is observed at a substantial level. The outcome of the ARDL approach suggests that higher currency misalignment reduces economic growth. Turning to the separate impacts of undervaluation and overvaluation, while the former falters economic growth, the later promotes it, a finding contrary to the conventional expectation. Therefore, the use of exchange rate as a policy variable is a critical concern to avoid misalignment for sustained economic growth.Practical implicationsThe anti-growth effect of undervaluation and misalignment is an indication of redistribution of income which could be verified by examining the aggregate consumption behavior of the economy in response to RER movements.Originality/valueThe impacts of currency undervaluation and overvaluation on economic growth of Turkey have been studied in a number of time-series studies. But there is no documented study on the role of currency misalignment on Turkish economic growth. This study is the first that examines how the economic growth of Turkey is influenced by currency misalignment together with the impact of undervaluation and overvaluation.

The Impact of China Exchange Rate Policy on its Trading Partners Evidence Based on the GVAR Model

This study is designed to investigate the impact of China exchange rate policy on its trading partners by using a country multi-dataset GVAR model. Our model includes samples of 30 countries, six from high-income, six from middle-income and eighteen from low-income countries. This study used annual time series data over the period 1992 to 2017. We constructed currency misalignment index and it provided some interesting features about the currency undervaluation and overvaluation. The results of the currency misalignment shows that China’s Renminbi is structurally more undervalued over the sample period as compared to other countries, and fluctuation in major currencies effects the global trade around the world. The overall empirical results of the GVAR model indicate that RMB undervaluation affects the trade pattern and macroeconomic performance of China’s trading partners. Overall, China’s exchange rate undervaluation has mixed effects on trading partner’s GDP, exports and imports. The devaluation of China’s RMB efficiently stimulated China’s exports and reduced imports. While, in some countries, this effect is reverse, the RMB undervaluation increases the GDP of partner countries and also increases their exports to China. The results confirm the strong and leading role of the Chinese Renminbi in the global trade.

Currency Misalignments and Optimal Monetary Policy: A Reexamination

This paper examines optimal monetary policy in an open-economy two-country world with sticky prices under pricing to market. We show that currency misalignments are inefficient and lower world welfare. We find that optimal policy must target consumer price inflation, the output gap, and the currency misalignment. The paper derives the loss function of a cooperative monetary policymaker and the optimal targeting rules. The model is a modified version of Clarida, Galí, and Gertler (JME, 2002). The key change is that we allow pricing to market or local-currency pricing and consider the policy implications of currency misalignments. JEL: E52, F31, F41