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The Index Of Domestic Prices Economics Essay 国内价格指数 1.1:简介 在本章中，我们对先前做的研究进行了简要的批判性分析。此外，我们根据之前的研究会尽量考虑到“贬值”对“进出口”的影响。根据现有的文献描述，“贬值”和“进出口”存在着显著的关系。 为提高竞争力，汇率政策已经成为所有努力调整的核心。大多的名义贬值预计将导致支出切换，这样就提高了生产流通的出口率，降低了进口数量。一些作者认为，特别是在发展中国家和半工业国家，贬值可能会适得其反，因为出口和进口都对价格和汇率的变化不敏感。 1.2：历史背景 在过去的四十年里，第三世界国家已经从一个开发模式变成另一个：用进口代替产业化，用出口来调整规划结构。最近，撒哈拉以的南非洲地区开始逐渐接受后一种方法，采取的措施包括随行取消贸易限制和货币贬值。 2.1: Introduction In this chapter we will furnish a brief critical analysis of the previously conducted studies. Moreover, we will try to take into account the impact of "Devaluation" on "Imports and Exports" by the previous studies. The existing literature depicts that there exists significant relationship between "Devaluation" and "Imports and Exports". Exchange rate policies to improve the competitiveness have become the centerpiece of any adjustment effort. Mostly it is expected that a nominal devaluation will result in expenditure switching, increased production of tradable, higher exports and less imports. By a number of authors, it has been argued that devaluation can be counterproductive because exports and imports are relatively insensitive to price and exchange rate changes, especially, in developing and semi-industries countries. 2.2 Historical Background: In the last four decades, Third World countries have lurched from one development paradigm to another: from industrialization to import substitution, to export promotion, to structural adjustment programming. Recently, Sub-Saharan Africa has increasingly embraced the latter approach, including the accompanying removal of trade restraints and currency devaluation. Economic theory posits that devaluation will likely improve a nation's trade balance. However, there are two schools of thought with divergent explanations of how this comes about. The Elasticities Approach contends that by reducing the real value of the currency, devaluation improves the global competitiveness of a nation's tradable goods. According to the Monetarists, devaluation exerts a negative impact on real balances, thus reducing real expenditures, which force an improvement in the trade balance. The disagreement is therefore not with the results but over the transmission mechanism. A clear statement on the exact role of relative prices in transmitting the effect of devaluation in a Sub-Saharan1 economy is quite important, as more and more of these countries resort to currency realignment as the key corrective policy initiative in an adjustment package, often implemented at the behest of the I.M.F. 1Eukina Faso, Cameroon, Central African Republic, Cote d'lvoire, Gabon, The Gambia, Ghana, Kenya, Madagascar, Mauritius, Niger, Nigeria, Rwanda, Senegal, Sierra Leone, Tanzania, and Togo are included in Sub-Saharan economy In the recent years several papers have appeared which have tried to analyze empirically the effect of devaluation on the trade balance and balance of payments. There are three basic objections that one can make to these previous studies: They examine only the impact effects and fail to show whether any apparent improvement is temporary or permanent. They do not compare post-devaluation levels of the accounts with pre-devaluation levels. They have not accounted for the effect of other variable such as the government's monetary or fiscal policy. Only the improvement or worsening of raw account figures following devaluation is reported. While all three objections do not apply to each of the previous studies, each study fails to deal properly with at least one of them. 2.3 Theoretical Evidences Different studies by various authors have been conducted according to which devaluation does not improve the trade balance but improves the balance of payments. In this context many authors have argued that a country's persistent imbalance can be due to faulty monetary policy and cannot be corrected by either devaluation (exchange rate policy) or the use of fiscal policy. The exchange rate changes (primarily devaluations) in developing countries have been the subject of considerable debate in recent years. Researchers at various international monetary organizations, especially the IMF and World Bank, have generally maintained that devaluation plays a positive and important role in stabilizing balance of payments, while academic researchers have focused mainly on the newly discovered concretionary and otherwise perverse effects of exchange rate adjustment. Kamal and Alvie, (1975) are of the view that devaluation in the local currency effect both imports and exports of a country. To keep their view they conducted a research and took the case of 1972's devaluation as a case study, according to which Pakistan Rupee was devaluated from Rs.4.76 to Rs.11.00 per U.S dollar. The effect of devaluation has been estimated, on both, Pakistan's imports and exports respectively. Before describing effect of devaluation on the imports, first import requirements of a developing country like Pakistan have been described in a short way, then, to calculate effect, different import demand functions for different requirements have been estimated. Imports of consumer goods, food grains, raw material and capital goods have been included in the main -imports requirements and then separately demand functions of these imports have been estimated. The effect on exports has only been observed through the comparison between domestic price level and world price level. Mainly the effect of devaluation in both cases (imports and exports) has been observed through Effective Devaluation, which is measured by comparing exchange rate in pre and post devaluation periods. The main conclusion, which emerge from the study is, that, imports are influenced by factors other than prices as devaluation is expected to have very substantial effect on the import bill. Both the import functions and the import data in the post devaluation period reflect this. Due to export duties and domestic pricing polices, the relative pieces of Rice, Cotton and Sugarcane have remained somewhat the same. However, export duties and increase prices of agriculture inputs have played a major role in checking an increase in production and introduction of new products in exports has increased the exports substantially. Grubel (1976) has argued that a country's persistent payments imbalance can be due to faulty monetary policy and cannot be corrected by either devaluation (exchange rate policy) or the use of fiscal policy. Miles (1979) claims to have provided the requisite evidence to support Grubel's argument. Thus, it may be concluded that although it cannot expected that import would decline, there are other beneficial effects, and thus the devaluation is a right step in the right direction. Laffer (1976) eliminates the first two objections in test of 15 postwar devaluations. He examines the time path of the trade balance over seven years, from three years before devaluation until three years after. He finds that although the trade balance "improves" in the years following devaluation for eight of the fifteen cases, in one-half of those cases the trade deficit is still worse than the average balance of three years prior to devaluation. Furthermore, ten of the fifteen countries have the largest deficit of the seven years period in three years following devaluation, and two more have the largest deficit in the year of devaluation. Ten of the fourteen countries with data for the third year following devaluation have a larger deficit in that year than in the year after devaluation. Thus, there is little evidence of devaluation causing significant or sustained improvement in the trade balance. Salant (1976) did a similar analysis to Laffer on 101 devaluations, for both the trade balance and balance of payments. Salant finds that in about three-quarters of the cases (75 of 101) the average balance of payments for the three years following devaluation is improved as compared with the average in three years preceding devaluation. In contrast, in less than one-half the cases (46 Of 101) does the average of the trade balance improve? Miles (1979) examines the statistical relationship between devaluation and both tirade balance and the balance of payments for sixteen devaluations of fourteen countries in the 1960s; in this study above described objections have been taken into account to make the study more complete than the previous studies. Using several tests involving both the seemingly unrelated and pooled cross-section time-series regression techniques, the paper tests the effect of devaluation while standardizing for other variables that may affect the foreign accounts. As effects of devaluation are explored through several statistical techniques. Testing the exchange rate directly through seemingly unrelated regression provides no overwhelming evidence of an improvement in either account. Examining the residuals of the equation without the exchange rate, however, provides a different result. The residuals indicate a small improvement in the trade balance in the year following devaluation. But this improvement is small compared with the deterioration of the trade in the year of devaluation or succeeding years. On the other hand there is clear evidence of balance of payments improving following devaluation. This pattern of contrasting behavior is reinforced by the succeeding tests. Pooling the data across time and countries does not create a significant positive coefficient for the trade balance of payments. Finally, constraining only the exchange-rate coefficient across countries and introducing lead and lag values further reinforces the pattern. The balance of payments, however, has a clear, significant pattern, worsening in the years preceding devaluation and then improving in the year following devaluation.#p#分页标题#e# These results have at least two implications. First, they generally support the position of Laffer (1976) and (1976) that devaluation does not improve the trade balance but improves the balance of payments. The residuals of the trade balance equations excluding the exchange rate are on average positive in the year following devaluation. In isolation this results implies that the trade balance "improves" but the positive residuals in that years are smaller in magnitude than the negative residuals in that year of devaluation. The second implication is the essentially monetary nature of the adjustment to devaluation. While many have suggested that devaluation will be accompanied by change in real variable such as the trade balance, the present test can find little evidence of such changes. In particular, the behavior of the trade balance, combined with the tests on the monetary variable, provide little evidence of a real balance effect affecting trade. This result can be explained either by the assumption that Fiat money balance are only a small fraction of total wealth, or that there are only small reactions to changes in the value of monetary wealth. The main result of this study is that in any case devaluation does not improve the trade balance but improve the balance of payments, by definition the capital account must be improving, because devaluation seems to cause only a simple portfolio adjustment. According to the monetary approach devaluation causes a simple excess demand for money and excess supply of bonds. The ratio of money to bond holding is then returned to its desired level through a capital account-balance of payments surplus. Sargent (1983) considers that the fundamental reason for the exchange-rate crisis was the budget deficit. More recent works show that the problems resulted more from the accumulated debt than from the budget, since the deficit decreased sharply in the last years and equilibrium was almost reached in 1925 thanks to the 20% rise in taxes. (Krueger, 1983) suggests that transactions completed at the time of devaluation or depreciation may dominate a short-term change in the trade balance. That is, there is an initial deterioration in the trade balance during the ‘contract period’ before quantities of exports and imports adjust. Over time, elasticities of exports and imports increase, quantities adjust to the altered effective prices, and the trade balance improves. Williamson (1983), however, points out that higher import prices, caused by devaluation, can contribute to higher domestic prices of non-traded goods. The resulting overall inflation raises the effective real exchange rate, perhaps eliminating the potential for increasing the trade balance. Giovannini (1988) argues that traded manufactured goods are imperfect substitutable, that's why; the idea of traded goods price equalization has been altered radically. According to the author the "law of one price" within a given industry is not expected to be held, between domestic production and foreign imports, but it might hold between the same production for domestic market and foreign market. In this study author concentrates on the optimal pricing polices according to which, price level is predetermined. In this study, also, model is used to analyze the effect of increasing exchange rate risk, the choice of the currency of denomination of export prices, responses of traded goods prices to exchange rate changes and deviation from the "law of one price". Also, a discussion, on the effect of exchange rate uncertainty, which describes that how exchange rate risk effects both the level and the currency denomination of traded goods prices, and on the determinants of correlation between prices of traded goods nominal exchange rate has been made. In the model, the sale of output has been distributed into domestic and foreign markets. According to which there two demand functions have been estimated, for domestic and foreign markets respectively. Where total costs are an increasing function of the total output. Main results of this theoretical analysis are, that co-movements of prices of traded goods and the exchange rate depend not only on the demand and cost parameters, but also on the stochastic process followed by the exchange rate and exchange rate makes surprise because of predetermination of the price level of traded goods. In the empirical exercise, some tests have been carried out, which isolate the role of price predetermination and ex ante discrimination in the observed deviations from the "law of one price". There is another strong point of view, according to which large exchange rate swings (overvaluation or undervaluation) can cause hysteresis in trade when foreign firms can enter the domestic market only by incurring a sunk cost and to remain in the market only a fixed maintenance cost is required each period. In this case a temporary rise in the exchange rate, if sufficiently large, would induce foreign firms to enter the domestic market. Since entry costs are sunk, not the entire new entrants exit when the exchange rate returns to its original level and this persistent change in the market structure shifts the relationship between the exchange rate and imports. The earlier literature that modeled trade in developing countries commonly found evidence that relative prices play a role in the determination of trade flows, buttressing policies of devaluation as a way to correct trade imbalance. Their evidence often came in the form of significant t-statistics on the relative price variable in static or "long-run" specification of Import demand or export supplies (see, for instance, Khan (1974), Ritteiiberg (1986), Bond (1987) and Marquez and McNeilly (1988)). Edwards (1989) finds that, in most instance (the real effects in chronic high inflation countries appear to be much less), there are significant real effects one year after the devaluation; the effects, however, appear to erode completely the third year. Baldwin and Krugman (1989), examine the feedback from entry and exit decisions to the exchange rate itself. They argue that macroeconomic constraints imply that a temporary exchange swings cannot lead, to a permanent trade surplus or deficit. The exchange rate must adjust so as to preserve intertemporal balance of payments and also according to one view might be that a temporary overvaluation will automatically be followed by a corrective undervaluation that restores the initial market position. But according to authors this is not necessarily the case, in a particular model they consider, that a temporary overvaluation is followed by a persistent reduction in the equilibrium exchange rate, that is enough to restore trade balance but not enough to regain lost markets. The purpose of this paper is to further formalize and extend the idea that large shocks to the exchange rate can have persistent effects on international trade. The aggregate behavior of imports when there are many industries subject to potential foreign entry has also been examined. Here a simple model of two-country framework, which considers an industry in which there is a single foreign firm capable of supplying the home country market and it is assumed if the foreign firm chooses to enter it, will be a monopolist, having a constant marginal cost in terms of the foreign currency. Large movements in the real exchange rate have been considered where the foreign firm might at some point find it advantageous to shift production to the home country and the firm's strategy depends crucially on the behavior of exchange rate. We can see from the models that there is a reasonable case to be made for persistent trade effect of large exchange rate shocks, and that this kind of trade persistence is not simply a kind of lag in the response to the exchange rate. To make the analysis more operational three main tasks have been involved. The first task is to make the models more reasonable at a micro level and the second task is to get the macroeconomic linkages better specified, according to which a decision to enter a market is a kind of investment and a decision to abandon a market is a kind of capital consumption. Finally, there is need of some ideas of how important these effects really are in practice. Here the problem is one of both technique and data. The dynamic effects are not captured by econometric assumption that behavior can be represented by continuous functions and fixed structure of leads and lags. Thus, unconventional statistical techniques may be necessary. More recent empirical work (see Rose (1990) and (1991); and Ostry and Rose (1992)), however, has suggested that, once the time-series properties of the variables are properly taken into account in the estimation, there is little evidence that relative price have a significant and predictable impact on trade. While Rose (1990) does not model imports and exports separately, using data for 30 developing countries he finds that changes in the real exchange rate do not have a significant effect on changes in the balance of trade. So far as the inconsistencies of stabilization policies and exchange rate policies are concerned, let us take the devaluation in case of Pakistan. It is profoundly argued on the part of policy makers' whenever they devalue, that devaluation is the most important instrument to correct external sector of the economy and especially to boost the exports (Hasan and Ashfaque (1994)). This policy is persistently followed and used in our case but the situation is another way round because elasticities of our exports are low and imports are almost inevitable. It usually results in an increase in imports bill and decrease in exports bill due to volume effect and Marshall-Learner conditions in case of low elasticities. It is not an effective measure especially in the long run. Rodriguez (1989) questions the justification of use of a single instrument (nominal exchange rate), as it is the problem of too many targets and only one variable.#p#分页标题#e# Hassan and Khan (1994), argue that if it is valid that trade balance cannot be corrected by devaluation, then, this result has an important policy implication. If exchange rate changes (devaluation) do not improve the trade balance then various IMF stabilization packages that include some exchange rate re-alignment cannot be justified. The main objective of the study is to examine the validity of the argument exchange policy (devaluation) does not improve the trade balance using Pakistan's data. The issue of the impact of devaluation on the trade balance has been examined by specifying export and import functions along with a price equation. Because devaluation causes the domestic prices level to raise through higher import prices in rupee term. According to the prevailing practice exports have been taken into account according to two different functions, export demand and export supply functions respectively and also have been specified simultaneously on the grounds that the relationship between quantities and prices is simultaneous in nature. Three functions in which export demand, export supply and import demand, have been estimated by using Cobb-Dougles Production function. Where export demand function includes foreign income2, relative price 3 (which is the ratio of the index of domestic prices of exports to world export prices) and nominal exchange rate and export supply function includes the domestic production of exportable 4 and relative price index 5 as explanatory variables. In the import demand 2World GDP index. 3 Ratio of the index of domestic prices of exports to world export prices. 4Gross Domestic Product. 5 This is the ratio of Pakistan's export price index to domestic price index. (Implicit GDP deflator) domestic economic activity (GDP) relative price6 and exchange rate have been included as independent variables. Finally a price equation depending upon money Supply (M2 definition), import price and ratio of potential GDP to the last years' actual GDP is estimated. Where last variable potential GDP to the last year's actual GDP is included to capture the supply side effect. The model has been estimated through 3SLS technique in both linear and log linear form. In case of exports of manufactured product, both (WGDP) and RP are not statistically significant with expected signs ER has positive and significant sign implying that, a devaluation of exchange rate has a positive impact on both primary and manufactured exports. In the case of supply the persistent lagged effects of price are supposed to dominate the estimated results and also the export are seemed to be influenced by the implicit price deflator. The impact of RP on manufactured goods import is negative and for raw material import is positive. An increase in the foreign exchange reserves is also having positive effect on the import demand. Parameter estimates of the general price have the expected signs with statistically significant coefficient in most cases. 6 Ratio of import price index to domestic price index. It is a real devaluation and if trade flows respond to relative prices in significant and predictable manner. However, a recent strand in the empirical trade literature has questioned the existence of a stable relationship between trade flows and its traditional determinants. This paper reexamines the relationship between relative prices and imports and exports in a sample of 12 developing countries. This paper re-examined the role of relative prices in affecting trade and therefore, implicitly, the effectiveness of devaluation policies in light of the recent time-series literature that deals with variables that have unit roots and no well defined limiting distributions. Several empirical regularities emerge. First the analysis suggest that, in accordance with standard microeconomic theory, income and relative prices are, more often than not, both necessary and sufficient to pin down steady-state trade flows. However, the "traditional" specification appears to fare better when modeling developing-country demand for imports than when applied to industrial-country demand for developing-country exports. The latter may suggest that a fruitful area to investigate is intra-developing-country trade. Second, it is found that, for the majority of cases, relative prices are a significant determinant of the demand for imports and exports. Third, while relative prices have a predictable and systematic impact on trade, price elasticity's tend to be low, in most instances well below unity. The latter suggests that large relative price swings are required to have an appreciable impact on trade patterns. Finally while industrial-country income elasticity's are well above their developing-country Asian and Latin American counterparts, suggesting that in a scenario of balanced growth the developing country trade balance should improve, this is not the case for Africa. The high primary commodity content of African exports probably accounts for this result. Ariel Burstein at.al (2003) argue that the primary force behind the large fall in real exchange rate that occurs after large devaluation is the slow adjustment in the price of non-tradable goods and services. Their empirical analysis is based on data from four large devaluation episodes: Mexico (1994), Korea (1997), Brazil (1999) and Argentina (2001). They argue that that slow adjustment in price of non-tradable goods and services is not the failure of PPP for goods that are actually traded. They constructed an open economy general equilibrium model that can account for the slow adjustment in non-tradable good prices after large devaluation. To simplify their analysis they focus on rationalizing a post devaluation equilibrium in which non-tradable good prices do not change. In reality prices do change these prices do change, albeit by far less than the exchange rate, the price of imports and exportable, or the retail price of tradable goods. Modeling the detailed dynamics of non-tradable good prices is a task that they leave for future research. 2.4 Summary of Review: We can summaries that as a result of currency devaluation, all other things being equal, the overall demand for domestically produced goods is likely to increase. This in turn will give rise to a better balance of payments and in turn to stronger economic growth. A fall in the real exchange rate implies growing competitiveness and a rise means falling international competitiveness. Hence, following this expression, currency depreciation (a fall in the number of foreign currency exchanged per local currency) will lead to a fall in the real exchange rate and thus to an increase in international competitiveness. A fall in foreign prices, however, will lift the real exchange rate and therefore reduce competitiveness. In this way of thinking, it is quite clear that currency devaluation-all other things being equal-is beneficial for economic growth. |
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