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The Real Exchange Rate and the Output Response in Four Transition Economies: A Panel Data Study

In: Exchange Rate Policies, Prices and Supply-Side Response

Author

Listed:
  • Aleda Mitchell
  • Eric J. Pentecost

Abstract

The relationship between the real exchange rate and the level of output is an important and controversial issue for developing and transitional economies. The traditional literature suggests that a real exchange rate depreciation will lead to a rise in the demand for domestic output as the gain in competitiveness improves the trade balance, assuming that the sum of the import and export elasticities of demand exceed unity.1 On the other hand, there are several theoretical reasons why, contrary to the traditional view, devaluation can be contractionary and generate a decline in economic activity. First, nominal devaluations can result in some contractionary pressures on aggregate demand, which could more than offset the traditional expenditure-switching effect. For example, a devaluation will raise the price level, generating a negative real balance effect (Alexander, 1952), which will in turn lower aggregate demand and output. Another channel through which devaluation can lower aggregate demand relates to its effect on income distribution. A devaluation can redistribute income from groups with a low marginal propensity to save to groups with a high marginal propensity to save, resulting in a decline in demand and output (see Krugman and Taylor, 1978). Furthermore, if the price elasticites of imports and export are sufficiently low, the trade balance expressed in domestic currency may worsen, generating a recessionary effect. Second, in addition to these demand-side effects there are a number of supply-side channels through which devaluation can be contractionary.

Suggested Citation

  • Aleda Mitchell & Eric J. Pentecost, 2001. "The Real Exchange Rate and the Output Response in Four Transition Economies: A Panel Data Study," Palgrave Macmillan Books, in: Christos Papazoglou & Eric J. Pentecost (ed.), Exchange Rate Policies, Prices and Supply-Side Response, chapter 5, pages 68-77, Palgrave Macmillan.
    • Handle: RePEc:pal:palchp:978-0-230-55453-5_5
    DOI: 10.1057/9780230554535_5
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    Citations

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    Cited by:

    1. Hsing Yu, 2017. "Is Real Depreciation or More Government Deficit Expansionary? The Case of Slovenia," South East European Journal of Economics and Business, Sciendo, vol. 12(1), pages 50-56, April.
    2. Yu HSING, 2016. "Is real depreciation expansionary? The case of the Czech Republic," Theoretical and Applied Economics, Asociatia Generala a Economistilor din Romania - AGER, vol. 0(3(608), A), pages 93-100, Autumn.
    3. Yu HSING, 2016. "Is real depreciation expansionary? The case of the Czech Republic," Theoretical and Applied Economics, Asociatia Generala a Economistilor din Romania - AGER, vol. 0(3(608), A), pages 93-100, Autumn.
    4. Yu Hsing, 2016. "Impacts of Government Debt, the Exchange Rate and Other Macroeconomic Variables on Aggregate Output in Croatia," Managing Global Transitions, University of Primorska, Faculty of Management Koper, vol. 14(3 (Fall)), pages 223-231.
    5. Sebastian Kripfganz & Daniel C. Schneider, 2020. "Response Surface Regressions for Critical Value Bounds and Approximate p‐values in Equilibrium Correction Models," Oxford Bulletin of Economics and Statistics, Department of Economics, University of Oxford, vol. 82(6), pages 1456-1481, December.
    6. Bertelli, Stefano & Vacca, Gianmarco & Zoia, Maria, 2022. "Bootstrap cointegration tests in ARDL models," Economic Modelling, Elsevier, vol. 116(C).
    7. Tavakoli , Akbar & Kheradmand , Alireza, 2013. "Chronicle of Currency Collapses and the Effects on Output: Evidence from Six Asian Countries," Journal of Money and Economy, Monetary and Banking Research Institute, Central Bank of the Islamic Republic of Iran, vol. 8(2), pages 1-22, April.
    8. HSING, Yu, 2016. "Is Real Depreciation Expansionary? The Case Of The Slovak Republic," Applied Econometrics and International Development, Euro-American Association of Economic Development, vol. 16(2), pages 55-62.
    9. MITEZA, Ilir, 2006. "Devaluation And Output In Five Transition Economies: A Panel Cointegration Approach Of Poland, Hungary, Czech Republic, Slovakia And Romania, 1993-2000," Applied Econometrics and International Development, Euro-American Association of Economic Development, vol. 6(1).
    10. Mills, Terence C. & Pentecost, Eric J., 2001. "The real exchange rate and the output response in four EU accession countries," Emerging Markets Review, Elsevier, vol. 2(4), pages 418-430, December.

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