DEVALUATION VS
CURRENCY DEPRECIATION
Students often misinterpreted these two exchange rate policy
together, although they seems to do the same thing, as they both deals with
value of a particular currency in the international market. In real sense, the
value of currency dropped relating to other currencies in the world market. To
this extent they are the same.
For simplicity it is necessary to understand Exchange rate
and its types.
Exchange rate can be define as rate at which one currency exchanges for another, it has
to do with the rate at which a particular currency let say Nigeria (#) relate
to other foreign currency let say ($), the changes in exchange rate is either
an increase or a decrease, which directly affect the country’s (import and
export) .
Types of exchange rate
Ø
Fixed exchange rate
Ø
Floating exchange rate
A fixed exchange rate is a type of exchange rate regime
where a country currency’s value is fixed
against other currency/currencies. Here, a country’s central bank uses an open market merchant to buy and sell
its currency at a fixed rate.
A Floating exchange
rate is a type of exchange rate regime where the value of a country’s
currency is allowed to fluctuate in response to foreign exchange market mechanism. Currency that uses a floating
exchange rate is called floating
currency.
NOW
DEPRECIATION OF CURRENCY: depreciation of currency happens
to that currency that operates with a
floating exchange rate and it is likely to change on daily basis. Here the
forces of demand and supply in the international market determine the value at
which a country’s currency exchanges for other currencies. DEPRECIATION occurs when the forces of demand and supply cause the
value of the currency to DROP.
DEVALUATION OF CURRENCY: devaluation deals with country that
uses a fixed exchange rate to value
its currency. In a fixed exchange rate economy it is the work of the government
to decide the worth of its currency
compared with other countries, here the government buy and sell its currency to
keep its exchange rate the same. The exchange rate can only be influenced by
the government. If a government decides to make its currency less valuable, it is called devaluation.
What is the effect of
depreciation/devaluation of currency on the economy of a country?
Generally
both have similar impact on on the economy in the
short run. Both depreciation/devaluation tends to help exporting companies,
as a decrease in the value of home currency, it allows the other countries to
import goods at a cheaper price from the country whose value of currency has
depreciated/devalued, thus export from home country will increase. More so
citizens will find imported good more costly, as it cost more of local currency
to import from other countries. This is good to help infant industries to grow
and, also as a means of correcting balance of payment deficit. By implication
depreciation/devaluation tends to increase export and reduce import.
Depreciation in the
long run is a slow process, and the value of the currency gets adjusted
automatically by the forces of demand and supply. Thus, when the currency of a
country had been depreciated, the investors from other countries will see an
opportunity and are likely to shift from other economies. This will help in boosting
the economy which in the long run will appreciate the currency.
Devaluation on
the other hand, there is less trust in the economy and once currency is
devalued, government finds it very difficult to revalue the same by government
dictate as there will be fear that such revaluation can backfire and put the
economy is risk.
Comment below if this is helpful…stay tune for APPRECIATION
OF EXCHANGE RATE
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