Traditional explanations based on the flexibility approach regarding devaluation have been ”considered” inadequate in the following years and have been ”criticized” by many economists. The biggest criticism was the constant assumption of all economic variables other than supply, demand, and prices of goods entering foreign trade.
What is devaluation?
A national currency is a unit of measure of the value of a national currency. In this way, the aim is to increase foreign exchange inflow by making imports expensive and decreasing exports relatively.
However, if production cannot meet the domestic demand or buyers in foreign countries demand more goods, despite falling prices, devaluation does not benefit in a short period of time, remains ineffective and imports still increase.
If imported goods are indispensable, such as petroleum, or if the use of imported goods is widespread throughout society, reducing the external value of money causes a partial decrease in imports. It is not easy to restrict such a widespread trend with an increase in Salt prices.
When imports, which are more expensive, raise inflation, the national currency must depreciate again. Inflation-devaluation spiral is considered to be one of the most important causes of hyperinflation.
The biggest reason why the exchange rate increase is wanted to be controlled is to provide relatively cheap goods despite the increase in imports and to keep inflation low.
How is it evaluated?
With the rise in exchange rates, industrial investment trends begin to weaken. The fact that mostly imported investment goods cost more than those of imported investment goods generates this result.
The budget deficit grows along with the exchange rate increase. Because of the increase in foreign debt interest rates. The deficit amount is given in the budget in which these payments take place increases.
The acceleration in the exchange rate increases corrects the general level of prices. At the same time, the foreign exchange demand rises along with this acceleration. Since it is necessary to raise interest rates to stop exchange rate increases, the economy enters recession.
Devaluation leads to increases in inflation, especially in low-developed countries. Devaluation also creates increases in the country’s domestic debt.
The size of the impact of devaluation on inflation depends on the ratio of imports to national income and the ratio of basic items in total imports.
The change in exchange rates affects the external balance not only on the current account portion of the balance of payments. But also on the capital movements.
In countries experiencing high inflation, in other words, depreciation of national currencies. If the exchange rate change is above inflation, excessive buying position creates profit. The oversold position is harmful because more money will be paid to buy that currency if it is needed in the future.
DEVALUATION IN HISTORY
In Ancient Greece and Rome, devaluation was carried out through the reduction of the number of minerals that money represented. The amount of gold and silver printed in a certain amount of coins increased. Resulting in a decrease in the value of money. In the nineteenth century, inflation caused a decrease in the value of money by increasing domestic prices. And eliminating the ability to bond under the banknotes. Thus, the amount of gold has accepted for the national currency has been reduced. Exchange rates have been adjusted accordingly.