International Finance Discussion Papers (IFDP)
November 1988
Devaluation, Exchange Controls, and Black Markets for Foreign Exchange in Developing Countries
Abstract:
This paper considers how exchange controls, black markets, and forward-looking expectations condition the impact of exchange rate devaluations in developing countries. A model incorporating these features is developed to analyze the response of key external balance indicators to anticipated devaluations. The model is driven by the movements of black market exchange rates in perfect foresight equilibrium, which in turn force changes in export under-invoicing and official trade statistics. The predicted movements in all measurable variables, both before and after devaluation, closely mirror those historically associated with devaluation episodes. The analysis is then extended to the case of 'devaluation cycles' to examine the paths of the black market rate and official trade statistics in the face of persistent inflation which over-values the real exchange rate and motivates periodic devaluations. Statistical analysis of a multi-devaluation data set strongly supports some of the most important predictions of the model: black market exchange rates typically depreciate in response to official devaluation, and all else equal, increases in the black market rate reduce official measures of dollar value exports.
PDF: Full Paper
Disclaimer: The economic research that is linked from this page represents the views of the authors and does not indicate concurrence either by other members of the Board's staff or by the Board of Governors. The economic research and their conclusions are often preliminary and are circulated to stimulate discussion and critical comment. The Board values having a staff that conducts research on a wide range of economic topics and that explores a diverse array of perspectives on those topics. The resulting conversations in academia, the economic policy community, and the broader public are important to sharpening our collective thinking.