Countries in transition from central planning to markets have adopted all possible exchange rate regimes. Despite the wide variety of arrangements two common features emerge. First, upon returning to (often restricted) convertibility nearly all currencies have undergone a massive devaluation. By most accounts they were then deeply undervalued. Second, following this early move, all currencies have embarked on a path of real appreciation, sometimes by impressive amounts. What is remarkable is that these two stylized facts characterize all transforming economies, irrespective of the exchange regime and of the deep differences in other aspects of the chosen economic strategies, be it the speed of adjustment, the role assigned to markets, and the huge differences in inflation outcomes ranging from near price stability in the Czech Republic to near hyperinflation in Poland or Russia.

In Discussion Paper No. 1145, László Halpern and Research Fellow Charles Wyplosz test these two assumptions and find econometric support for both. The degree of initial overvaluation varies from country to country, ranging from very little in the case of Hungary to more than 100 per cent in most other countries. It is estimated using a sample of 49 high-and middle-income countries, with five observations per country (1970, 1975, 1980, 1985, 1990). The subsequent process of equilibrium appreciation is estimated with pooled data for six countries (Croatia, the Czech Republic, Hungary, Poland, Slovakia and Slovenia) covering the period after inflation stabilization

Equilibrium Real Exchange Rates in Transition
László Halpern and Charles Wyplosz

Discussion Paper No. 1145, April 1995 (IM)