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Devaluation, exchange controls, and black markets for foreign exchange in developing countries

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  • Steven B. Kamin
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    Abstract

    This paper considers how exchange controls, black markets, and forward-looking expectations condition the impact of exchange rate devaluations in developing countries. A model incorporating these features is developed to analyze the response of key external balance indicators to anticipated devaluations. The model is driven by the movements of black market exchange rates in perfect foresight equilibrium, which in turn force changes in export under-invoicing and official trade statistics. The predicted movements in all measurable variables, both before and after devaluation, closely mirror those historically associated with devaluation episodes. The analysis is then extended to the case of 'devaluation cycles' to examine the paths of the black market rate and official trade statistics in the face of persistent inflation which over-values the real exchange rate and motivates periodic devaluations. Statistical analysis of a multi-devaluation data set strongly supports some of the most important predictions of the model: black market exchange rates typically depreciate in response to official devaluation, and all else equal, increases in the black market rate reduce official measures of dollar value exports.

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    File URL: http://www.federalreserve.gov/pubs/ifdp/1988/334/default.htm
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    File URL: http://www.federalreserve.gov/pubs/ifdp/1988/334/ifdp334.pdf
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    Bibliographic Info

    Paper provided by Board of Governors of the Federal Reserve System (U.S.) in its series International Finance Discussion Papers with number 334.

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    Date of creation: 1988
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    Handle: RePEc:fip:fedgif:334

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    Keywords: Foreign exchange - Law and legislation ; Developing countries;

    References

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    1. Jagdish N. Bhagwati, 1978. "Anatomy and Consequences of Exchange Control Regimes," NBER Books, National Bureau of Economic Research, Inc, number bhag78-1, July.
    2. Flood, Robert P. & Garber, Peter M., 1984. "Collapsing exchange-rate regimes : Some linear examples," Journal of International Economics, Elsevier, vol. 17(1-2), pages 1-13, August.
    3. Kouri, Pentti J K, 1976. " The Exchange Rate and the Balance of Payments in the Short Run and in the Long Run: A Monetary Approach," Scandinavian Journal of Economics, Wiley Blackwell, vol. 78(2), pages 280-304.
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    Cited by:
    1. Kiguel, Miguel A. & O'Connell, Stephen A., 1994. "Parallel exchange rates in developing countries : lessons from eight case studies," Policy Research Working Paper Series 1265, The World Bank.
    2. Sebastian Edwards, 2001. "Does the Current Account Matter?," NBER Working Papers 8275, National Bureau of Economic Research, Inc.
    3. Steven B. Kamin, 1990. "Contractionary devaluation with black markets for foreign exchange," International Finance Discussion Papers 370, Board of Governors of the Federal Reserve System (U.S.).
    4. Guillermo Javier Vúletin, 2002. "Regímenes Cambiarios y Performance Fiscal ¿Generan los Regímenes Fijos Mayor Disciplina que los Flexibles?," Department of Economics, Working Papers 042, Departamento de Economía, Facultad de Ciencias Económicas, Universidad Nacional de La Plata.
    5. Guillermo J. Vuletin, 2004. "Exchange Rate Regimes And Fiscal Performance. Do Fixed Exchange Rate Regimes Generate More Discipline Than Flexible Ones?," Econometric Society 2004 North American Winter Meetings 474, Econometric Society.

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