Q.6 What would be the effect of a de... [FREE SOLUTION]

Chapter 19: Q.6 (page 528)

What would be the effect of a devaluation on a country鈥檚 imports and exports? If a country imports most of the goods included in the basket of goods and services used to calculate the CPI, what do you think the effect will be on this country鈥檚 inflation rate?

Short Answer

Expert verified

The devaluation makes exports cheaper and imports costlier.

Step by step solution

Concept Introduction

Devaluation refers to the decrease within the value of a currency under fixed rate system. Devaluation of a currency occurs because of the market conditions for a currency or thanks to its market demand or market supply.

Explanation of Solution

The devaluation would decrease the imports in an exceedingly country while it'll increase its exports thanks to the cheaper rate for exports and better cost for imports. Devaluation means decrease within the value of a currency which implies fewer units may be purchased with greater amount from other countries while more units is sold within the foreign market thanks to reduced price. Thus, devaluation makes exports cheaper and imports costlier.

So, it might increase the exports while it might decrease the imports. Costlier imports would cause cost push inflation and increased aggregated demand would lead to demand pull inflation. So, the rate of inflation would increase because of devaluation.