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Exchange Rates, International Trade, and Growth: Re-evaluation of Undervaluation

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  • Sokolova, Maria V.

    (Asian Development Bank Institute)

Abstract

We show that regional trade integration shifts the burden of the exchange rate adjustment towards the less integrated trading partners. Thus, they bear the cost of trade balance expansion, while competitive exchange rate moves vis-a-vis regional trade agreement (RTA) trading partners result in no expansion or deterioration of the overall trade balance. First, using the data on 138 countries that have been involved in regional trade integration through signing regional trade agreements (RTAs) since 1990, we show that upon a 10% depreciation towards non-RTA trading partners results in a 4.4% improvement of the aggregate trade balance. A similar competitive depreciation towards RTA trading partners has resulted in an average 3.7% deterioration of the aggregate trade balance. Second, we confirm that RTA participation can act as a good proxy for trade integration, and test the results with alternative measures of trade balance. Third, we use a simple model framework based on the current account adjustments to put the empirical findings into the theoretical frame. Altogether, we indicate that regional trade integration in the form of RTAs should be taken into account in questions related to the competitive exchange rate effects and trade balance adjustment.

Suggested Citation

  • Sokolova, Maria V., 2017. "Exchange Rates, International Trade, and Growth: Re-evaluation of Undervaluation," ADBI Working Papers 684, Asian Development Bank Institute.
  • Handle: RePEc:ris:adbiwp:0684
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    Keywords

    trade balance; regional trade agreements; competitive depreciation; economic integration; terms-of-trade;

    JEL classification:

    • F10 - International Economics - - Trade - - - General
    • F13 - International Economics - - Trade - - - Trade Policy; International Trade Organizations
    • F14 - International Economics - - Trade - - - Empirical Studies of Trade
    • F15 - International Economics - - Trade - - - Economic Integration
    • F40 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - General
    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • F45 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Macroeconomic Issues of Monetary Unions

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