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Consequences of overvalued and undervalued currencies

Overvalued Currency

Advantages

  • Downward pressure on inflation i.e. imported goods will be cheaper
  • More imports can be bought
  • High value of currency forces domestic producers to improve their efficiency to be more competitive in the international market.

Disadvantages

  • Overvalued currency will make exports uncompetitive in the international market which will hurt the export industries
  • Imports are relatively cheaper to buy due to overvalued currency. Consumers will go in for more imports which will damage to domestic industries

 

Undervalued currency

Advantages

  • If currency is undervalued, the exports will be cheaper and they will grow leading to greater employment in export industries
  • Undervalued currency will make imports expensive for consumers, they will divert to domestic goods and thus employment in domestic industries will increase.

Disadvantages

As discussed earlier undervalued currency makes imports expensive which also leads to Imported inflation i.e. all the products using imported components/raw material will become expensive thus effecting the general price level.

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