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Half a century of large currency appreciations: Did they reduce imbalances and output?

If China only allowed its currency to appreciate, the global economy would rebalance and stabilise – or so the argument goes. This column studies the historical record of large exchange-rate revaluations. It supports the idea that currency appreciations have an impact on the current account but argues that this can come at a cost – the reduction in exports risks putting the brakes on global growth.

Over the past decade, several emerging market economies – China in particular – have run substantial and persistent current-account surpluses. Loose monetary policy in the US could now result in higher domestic inflation within these emerging economies and lead to the sort of real currency appreciation that many countries want to avoid (Bergsten 2010 and Huang 2010).

It is well known that countries must choose between capital mobility, monetary policy autonomy, and exchange-rate stability but cannot pursue all three objectives at the same time. Clearly, China’s authorities are increasingly forced to consider currency appreciation as they fear the social ramifications of rising prices. From a global perspective, current-account imbalances and reserve accumulation may have contributed to the mispricing of risk and helped create the macroeconomic backdrop for the recent financial crisis. Currency appreciations in surplus countries could be a policy tool in reducing imbalances (Ferguson and Schularick 2011).

Yet currency appreciation remains a controversial policy choice among economists. In recent research (Kappler et al. 2011), we use a large cross-country dataset covering almost 50 years of international economic history between 1960 and 2008 to study the empirical record of large exchange-rate appreciation and revaluation episodes. Some of these episodes are regularly referred to in the debate about global rebalancing in the wake of the recent financial crisis, e.g. in Germany and in Japan.1

The main points of disagreement about the effects of exchange-rate changes on the macroeconomy relate to two central issues.

  • First, how effective would currency revaluation be in reducing current-account surpluses in Asia and deficits in the US? Unless structural saving and investment determinants change, there will be no change in current-account imbalances (Qiao 2007).
  • Second, is there reason to believe that appreciation would come with the negative side effect of reducing growth in developing countries? Appreciation might put a successful export-led growth model at risk. This model was centred on a competitive real exchange rate and positive externalities from investment in the tradable goods sector. Some economists fear that exchange-rate adjustment might be all too effective – but mainly in reducing the growth rate of the Chinese as well as other developing economies because China has become a locomotive for developing country growth in the 2000s (Garroway et al. 2010).
Digging up the historical evidence

While these questions open up a number of different conceptual issues, they are to some degree open to a joint empirical treatment. We define large exchange-rate events as a 10% (or larger) appreciation of the nominal effective exchange rate over a two-year window (or less), leading to sustained real effective appreciation of the same magnitude, sustained in real terms over at least five years. From 1960, we identify 25 episodes of large nominal and real appreciations and revaluations in a sample of 128 countries of developing and advanced economies. Studying the institutional context of each individual episode in detail, we find 14 cases of appreciation shocks that occurred not as a result of discretionary policy action, but were linked to the appreciation of the anchor currency under pegged exchange rates. These cases represent exogenous appreciation shocks that can be used to estimate the macroeconomic impact of large appreciations and assess the robustness of estimates based on a wider definition of appreciation and revaluation events.

We use a dummy-augmented autoregressive panel model (as in Cerra and Saxena 2008) to show that such large appreciations episodes have strong macroeconomic effects. The estimated effects of appreciation shocks on key macroeconomic variables are shown in the appendix. Four key stylised facts emerge that may well prove useful in the ongoing debate about the role of exchange-rate adjustment for global rebalancing.

  • First, the current-account balance typically falls strongly in response to large exchange-rate revaluations. Three years after the revaluation, the current account balance deteriorates by about 3 percentage points relative to GDP. This is due to a reduction in aggregate savings without a concomitant fall in investment. The effect on the current-account balance is statistically significant and robust to variation in the country sample and the definition of appreciation events.
  • Second, the effects on output seem limited. The point estimates suggest a negative effect of output growth, albeit of relatively small magnitude. On average, the aggregate level effect on output amounts to about 1% after six years. However, the output effects are statistically not significant.
  • Third, while aggregate output is not strongly affected, export growth falls significantly after appreciation shocks. Import growth remains by and large unchanged resulting in the observed deterioration in external balances. As aggregate economic growth is much less affected, these results point to a positive domestic demand response following appreciation episodes.
  • Fourth, the effects seem to be more pronounced in developing countries. The sensitivity of the current-account balance to revaluation shocks is higher. The effect reaches almost 4 percentage points of GDP after three years and is statistically significant. But also the potentially negative effects on output are larger, pointing to a loss in output of 2% over 10 years, albeit with wide confidence intervals.

The historical record of large exchange-rate revaluations that we have studied lends support to the idea that they have an impact on the current account as they lead to marked changes of savings and investment within countries. Appreciation shocks impact external balances, but this effect potentially comes at the cost of a reduction of dynamism in exports. While the domestic economy seems to pick up some of the external slack, leaving overall growth relatively unaffected, the prospect of sharp decelerations in export growth will remain a concern for policymakers and warrants careful attention especially in the context of developing countries.


Bergsten, Fred (2010), “China’s currency and the US economy”, VoxEU.org, 1 November.

Cerra, V and SC Saxena (2008), “Growth Dynamics: The Myth of Economic Recovery”, American Economic Review, American Economic Association, vol. 98(1), pages 439-57.

Garroway, C, B Hacibedel, H Reisen and E Turkisch (2010), “The renminbi and poor country growth”, OECD Development Centre Working Paper 292.

Eichengreen, B and M Hatase (2007), “Can a Rapidly-Growing Export-Oriented Economy Smoothly Exit a Peg? Lessons for China from Japan's High Growth Era”, Explorations in Economic History, 44(3):501-521.

Eichengreen, Barry and Andrew K Rose (2010), “How will the new exchange rate regime affect the Chinese economy”, VoxEU.org, 21 June.

Ferguson, N and M Schularick (2011), “The End of Chimerica”, International Finance, 14(1).

Goldfajn, I and R Valdés (1999), “The Aftermath of Appreciations”, Quarterly Journal of Economics, 114(1):229-262.

Huang, Yiping (2010), “A currency war the US cannot win”, VoxEU.org, 19 October.

Kappler, M, H Reisen, M Schularick and E Turkisch (2011), “The Macroeconomic Effects of Large Exchange Rate Appreciations”, OECD Development Centre Working Paper 296.

Qiao, HH (2007), “Exchange Rates and Trade Balances Under the Dollar Standard”, Journal of Policy Modelling, 29:765-782.


Table 1. Mean level effects after currency appreciation


1 Despite the large literature dealing with exchange rates and trade elasticities, the number of studies that have specifically analysed the economic effects of appreciation episodes is relatively small. Goldfajn and Valdés (1999) have studied large real effective appreciation episodes from 1960 to 1994 for a broad country sample, but with a focus on the dynamics of appreciation and overvaluation. Eichengreen and Hatase (2007) have analysed the Japanese revaluation experience with an eye on the policy lessons for China today. A recent study by Eichengreen and Rose (2010) has broadened this approach and is similar to our study in its research objective, but not in the empirical approach. 


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