The real exchange rate is the most widely accepted indicator of international competitiveness. There are four widely used real exchange rate indicators: a measure computed on the basis of the producer price, one computed using the consumer price, one based on unit labour costs, and the ratio of traded to non-traded price indices (proxied by the ratio of producer price to consumer price index). Lipschitz and McDonald (1992) proposed a fifth indicator which relates the total nominal relative wage costs to the relative production at current prices and reflects the combined effect of prices and labour costs related to the competitors.

In Discussion Paper No. 1366, Research Fellow László Halpern assesses the international competitiveness of Hungarian industry using these five real exchange rate indicators. Each indicator is modelled as dependent upon employment, unemployment, productivity, interest spread and real producer wage. He performs causality tests revealing that external performance has an impact on real exchange rates and exerts upward pressure on real exchange rates in Hungary. These variables include unrequited transfers and international reserves. Both are related to imports. The former is mainly associated with tax evasion and currency substitution, and the latter is the final outcome of movements in current and capital accounts. In order to ease the upward pressure on the real exchange rate, policies are needed to dampen unrequited transfers and accumulation of international reserves. The obvious candidates are greater convertibility and the reconsideration of international debt management by looking at the effect on the exchange rate. Both require greater exchange rate flexibility.