International Lending Webinar Series - 10th Episode
The Exchange Rate as an Industrial Policy
Pablo Ottonello (University of Maryland), joint work with Diego Perez and William Witheridge
We study the role of exchange rates in industrial policy. We construct an open-economy macroeconomic framework with production externalities and show that the desirability of these policies critically depends on the dynamic patterns of externalities. When they are stronger in earlier stages of development, economies that are converging to the technological frontier can improve welfare by intervening in foreign exchange markets, keeping the exchange rate undervalued, and speeding the transition; economies that are not converging to the technological frontier are better off not using the exchange rate as an industrial policy tool. A quantitative analysis of China's takeoff shows that the optimal exchange rate industrial policy significantly stimulates output in the first decades of the transition and provides welfare gains when combined with other conventional industrial policies.
