After devaluation, the price of foreign currency exported by the depreciating country drops, and the demand of foreign countries for their export commodities rises, so exports increase. At the same time, the increase in the local currency price of its imported goods will curb the demand of devalued countries for these imported goods, so imports have decreased. In a word, devaluation is beneficial to a country to expand exports, curb imports and improve trade balance. This is the most important economic impact of depreciation, and it is also the most important factor that a country's monetary authorities consider when reducing the proportion of foreign exchange.
However, here we must pay attention to two issues:
1. "Time delay" problem. It means that the foreign demand for export commodities will not increase immediately after the foreign currency price of export commodities falls, so the export volume of a country will not expand immediately. In this way, at the initial stage of devaluation, a country's export income will decrease, while its import volume will not decrease immediately, but its foreign exchange payment will increase immediately. Therefore, in the initial stage of devaluation, a country's trade balance will not improve immediately, but will tend to deteriorate. Only after a period of time, the import and export volume will gradually change and the trade balance will improve. This is called the "J-curve effect" of devaluation.
2. "elasticity problem". After devaluation, the export volume of a country's commodities has increased after a period of time, but at the same time, due to the decline of foreign currency prices of these export commodities, the foreign exchange income of its exports does not necessarily increase with the increase of export volume. In this way, the export increment after depreciation must reach a certain level, so that it is possible to offset and exceed the losses caused by the decline in foreign currency prices. This largely depends on the demand of other countries for goods exported by devalued countries: whether the exports of devalued countries can increase substantially depends on the elasticity of foreign demand for their exports, that is, the degree of demand increase caused by the rise and fall of their prices. On the other hand, after devaluation, the price of imported goods will rise and the demand will decrease. But the degree of reduction also depends on its demand elasticity. Therefore, it is generally believed that whether devaluation can improve a country's trade balance depends on the demand of export commodities and the demand elasticity of import commodities. If the sum of the two is greater than 1, depreciation can improve a country's trade balance. This is the so-called Marshall-Lanner condition. If this condition is met, it will help to improve the trade balance.
(2) the impact on capital projects
Depreciation has little effect on long-term capital flow, because the flow of long-term capital mainly depends on profits and risks. However, after the devaluation, the purchasing power of foreign currency has risen relatively, which is beneficial to the foreign direct investment in the devalued countries. But for short-term capital flows, its impact is unfavorable. After devaluation, the relative value of financial assets denominated in the currency of the devalued country will also decline. Non-resident deposits in domestic banks or non-resident investments in treasury bills and other financial assets will also be reduced and withdrawn to prevent losses. Moreover, due to the devaluation, the expectation of the country's currency in the forward foreign exchange market will change, which will break the so-called "interest parity relationship" and cause a large amount of funds to flow abroad for arbitrage benefits. At the same time, depreciation will cause an inflationary account expectation, that is, people expect the foreign exchange rate of the country's currency to fall further, thus causing the outflow of speculative capital.
(3) the impact on domestic prices and income levels.
The impact of devaluation on China is mainly manifested in domestic prices and income, as well as domestic production structure and overall domestic economic situation.
After the devaluation of 1., the price of imported goods will rise in terms of the national currency of the devalued country. This will cause the price of goods processed with imported raw materials to rise, which in turn will push up the price of domestic goods similar to importers. If the elasticity of the country's demand for imported goods is very small, that is to say, these imported goods must be imported by devalued countries, and the country cannot rely on domestic strength to meet the demand for such goods, or there are no other substitutes, then the situation that the prices of imported goods and related products rise but the demand does not fall will push up the domestic consumer price level of devalued countries.
2. Due to the general rise in prices, the real value of the cash balance held by people has declined, and it is necessary to increase the cash holdings to maintain the original actual demand level, which will lead to the reduction of actual expenditures in all aspects of society. With the increase of cash in people's hands, on the one hand, the supply of financial investment decreases, on the other hand, in order to increase the cash in hand, people have to change the original financial assets into cash, which will lead to the decline of financial assets prices. For these two reasons, domestic interest rates will rise. The rise of domestic interest rate will limit the increase of domestic currency in devalued countries.
In the process of depreciation, the prices of products processed with imported raw materials and similar products will rise first. The profits of enterprises that produce these products will increase rapidly, but the wages of workers cannot increase accordingly, which leads to a process of income redistribution.
4. In the process of income redistribution, the income of business owners increases and their propensity to save is higher, so the overall domestic expenditure level will decrease. And after a period of time, with the rise of prices, the wage level will also rise. At this time, there will be a "money illusion" phenomenon, that is, some people think that their income has increased, so they think that part of the increased income will be used for saving, which will reduce the actual expenditure, thus affecting the demand and price of domestic goods.
5. After the devaluation, due to the improvement of the competitiveness of export products abroad, the expansion of exports and the increase in the profits of export products manufacturing, other industries will be prompted to switch to export products manufacturing, and funds will also flow from other industries to export products manufacturing. And the increase in profits will also lead to an increase in wages. In this way, the wages of manufacturers of export products will be higher, which will lead to the flow of labor and the export industry will tend to prosper. On the other hand, after devaluation, the cost of imported goods will increase, and its sales price will also rise. Part of the original import demand will be transferred to the domestic products of devalued countries, and the competitiveness of domestic products to imported goods will also be improved. Therefore, the domestic product industry will also prosper. Therefore, currency depreciation will also profoundly affect a country's production structure. To sum up, exchange rate changes can have an important impact on a country's import and export, a country's production structure, a country's income redistribution, a country's interest rate and money supply, and a country's consumption level.
The unique nature of exchange rate changes is of special significance to some developing countries. Because the domestic financial system of these countries is very underdeveloped, it is often greatly hindered to use monetary policy to influence the domestic economy. Therefore, these countries often use exchange rate policies to achieve domestic economic goals. In addition to achieving roughly the same effect as monetary policy, this method has other advantages, that is, the impact of exchange rate changes on prices is often direct and can receive results in a short time. This short-term "shock" can offset the role of other forces, thus making the policy more effective. The impact of exchange rate changes on domestic monetary income is often indirect and silent, and it is not easy to cause social unrest. Therefore, although exchange rate changes have played a great role, they have not attracted much attention. Therefore, as a policy tool, exchange rate changes have its unique appeal.