Question

Discuss why it is often asserted that exporters suffer when their home currencies appreciate in real terms against foreign currencies and prosper when their home currencies depreciate in real terms.

Short answer

Exporters suffer when their home currency appreciates because their goods become more expensive and less competitive abroad. They benefit when their home currency depreciates as it makes their exports cheaper and more attractive to foreign buyers.

Step-by-step solution

- Understanding Currency Appreciation

Currency appreciation means that the value of a country's currency has increased relative to another country's currency. As a result of the stronger currency, the prices of that country's goods and services become more expensive for foreign buyers since they'll need more of their own currency to make a purchase. This can lead to a decrease in export sales because foreign buyers may seek cheaper alternatives.

- Understanding Currency Depreciation

Conversely, when a country's currency depreciates, or loses value compared to other currencies, its goods and services become cheaper for foreigners. This can lead to an increase in demand for the country's exports as foreign buyers take advantage of the lower prices.

- Effects on Exporters

Exporters suffer when their home currencies appreciate because their goods become less competitive in terms of price, dampening foreign demand. When the home currency depreciates, exporters generally benefit as their goods are cheaper on the global market, potentially leading to an increase in sales.

Key concepts

Real Currency Appreciation

Understanding the concept of real currency appreciation is essential in international economics. Simply put, when a country's currency strengthens in value against another's, we call it real currency appreciation. This strength is not just in exchange rates but also when accounting for inflation differences between countries. For instance, if the US dollar gains value against the euro and this change is greater than the inflation rate in the US compared to the EU, the real value of the dollar has appreciated.

What does this mean for exporters? Their goods become relatively more expensive for buyers using other currencies. Imagine an American wine producer finds that after real currency appreciation, Europeans may have to spend more euros to buy the same bottle of wine. Unless the wine has a unique quality that justifies the higher price, the producer might see a decrease in sales in Europe. Real currency appreciation makes a country's exports less attractive on the world market because foreign consumers and businesses can find cheaper alternatives elsewhere, shifting their demand away from products from the country with the appreciated currency.

Export Sales

The term export sales refers to the revenue generated by a country's companies from selling goods or services abroad. Export sales are a vital component of a nation's economy as they can contribute to job creation and economic growth. High export sales mean that a country’s products are in demand globally, reinforcing the strength of its industries.

However, export sales are sensitive to currency fluctuations. When the domestic currency appreciates, as mentioned earlier, exports can become more expensive for foreign buyers, negatively impacting export sales. Conversely, a weaker domestic currency often translates to more competitive export pricing, boosting sales. This push-and-pull dynamic is a crucial aspect of trade economics, highlighting the reliance of export sales on currency valuation and highlighting why businesses and policymakers closely monitor exchange rate movements.

Currency Depreciation

Currency depreciation is when a currency falls in value relative to other currencies. This is the flip side of currency appreciation and has its own set of effects on the economy. When a currency depreciates, it's often considered bad news for consumers, as imported goods become more expensive, leading to higher costs for items and possibly inflation.

For exporters, however, a silver lining exists. A depreciated currency means that foreign buyers will find the country's goods and services cheaper, which can give a boost to exports. A weaker currency can make a country's exports more competitive internationally because they are a better deal for buyers with stronger currencies. For instance, let's say the Japanese yen depreciates against the British pound. As a result, British consumers might be more inclined to purchase Japanese electronics, which now cost them less than before the yen's depreciation.

Global Market Competitiveness

Global market competitiveness is how effectively a country or company can compete on the international stage, offering products or services that meet the standards of quality, price, and demand compared to others. It is influenced by a variety of factors, including innovation, technology, productivity, cost, infrastructure, and currency value.

When a currency appreciates or depreciates, it can alter a nation’s global competitiveness. A stronger currency may make a country's exports less competitive due to higher costs. On the other hand, a weaker currency might improve competitiveness by making exports cheaper and more appealing to international buyers. To maintain competitiveness, countries strive to balance currency values with other factors, such as improving technology or reducing production costs, ensuring that their products remain attractive to buyers regardless of currency fluctuations.