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Exchange Rates and Prices under Processing Trade: A Macroeconomic Analysis

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  • Ying Wu

Abstract

In an economy dominated by labor-intensive processing trade, such as China, real exchange rate appreciation can possibly increase rather than decrease net exports. As the import content of processed exports (a proxy for dependence on processing trade) increases in its continuum, the stable equilibrium for the exchange rate and price level eventually yields to a saddle-point equilibrium. Unless the initial inflation (or deflation) rate is uniquely moderate at a given exchange rate, either the depreciation-inflation spiral or the appreciation-deflation spiral can dominate. Monetary and fiscal policies can help a processing-trade dependent country in structural transition from excessive engagement in processing trade (the saddle-point equilibrium) to a more sustainable and balanced trade structure. Copyright International Atlantic Economic Society 2010

Suggested Citation

  • Ying Wu, 2010. "Exchange Rates and Prices under Processing Trade: A Macroeconomic Analysis," Atlantic Economic Journal, Springer;International Atlantic Economic Society, vol. 38(3), pages 345-357, September.
    • Handle: RePEc:kap:atlecj:v:38:y:2010:i:3:p:345-357
    DOI: 10.1007/s11293-010-9236-0
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    More about this item

    Keywords

    Processing trade; Exchange rate; Prices; Dynamic equilibrium; F41; E40; F10;
    All these keywords.

    JEL classification:

    • F41 - International Economics - - Macroeconomic Aspects of International Trade and Finance - - - Open Economy Macroeconomics
    • E40 - Macroeconomics and Monetary Economics - - Money and Interest Rates - - - General
    • F10 - International Economics - - Trade - - - General

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