In economics, adual exchange rateis the occurrence of two different values of acurrencyfor different sets of monetary transactions.[1][2]One of the most common types consists of a government setting one exchange rate for specific transactions involving foreign exchange and another exchange rate governing other transactions.
A dual exchange rate policy can arise for a variety of reasons. In the past, European and Latin American countries have used dual exchange rates to ease the transition from afixed rateto afloating rate.Dual exchange rates are similar to multiple exchange rates in that they can appear when there is simultaneously both an official andblack marketrate.[2][3]
History
editIn thegold standardand theBretton Woods system,the major developed countries mainly implemented fixed exchange rate systems. Due to the devaluation of the pound around the 1970s and thecollapse of the Bretton Woods system,many developed countries switched to floating exchange rates.[4][5]In 1971, France started to adopt the dual exchange rate system. After that, in 1973, Italy also adopted this system. Both countries maintained these dual exchange rate systems through the early 1970s. TheBelgium–Luxembourg Economic Unionhas been using this system since 1957.[6][7]
Around the same time (i.e. the 1970s), many Latin American countries also shifted from a single exchange rate system to a dual exchange rate system or a multiple exchange rate system.[6]With the structural adjustment to international trade that has occurred since the mid-1980s, especially the deepening of trade reform, Latin American countries have begun gradually abandoning multiple exchange rate systems, favoring instead the implementation of single exchange rate systems.
From 1981 to 1985, during a period ofChinese economic reform,China formally implemented a dual exchange rate system. After 1985, China appeared in the foreign exchange market and the official exchange rate coexisted with a market-determined exchange rate. This system, though, didn't last long and was abandoned in 1994.[8]
From 1985 to 1995, South Africa also implemented a dual exchange rate system, and achieved remarkable results.[9]
Advantages
editThe advantages of dual exchange systems are tied primarily to their ability to prevent capital movements from affecting thecurrent accountand the exchange rate for current transactions by separating the exchange market for capital transactions and the exchange market for current transactions. Dual exchange systems are oftentimes used as a short-term alternative to placing quantitative controls on capital movements, especially in cases where a country may be transitioning between exchange rate types.[10]
Inflation
editDual exchange rates are oftentimes used to stabilize currency values when countries face financial crises. Because most modern financial crises are preceded by substantial inflows and outflows of short to medium-term loans (which create financial instability),[11]countries may implement dual exchange markets in order to discourage undesirable capital imports. Dual exchange rates are able to discourage these undesirable imports while maintaining desirable capital imports and allowing the exchange rate of the current account market to remain independent of the exchange rate of the capital account market, thereby preventing substantial negative effects on the current account.[12]This separation will prevent the current account exchange rate from devaluing or overvaluing a country’s exports and may prevent inflation that would otherwise take place due to the inflows of undesirable capital imports.[13]
Government revenue
editCountries implementing dual exchange systems may merely separate the exchange rates for the current andcapital accountmarkets, or they may set controls on one or the other; the latter option being intended to raise revenue for the government. Countries implementing such systems typically put any exchange controls on the market for financing current transactions.[14]However, economists such asRaymond Mikesellhave argued against use of exchange controls in dual exchange systems except those necessary to maintain the separation of the markets.[10]
Disadvantages
editIn times ofeconomic collapse,countries may choose to implement a dual exchange rate. This policy change can be seen as an efficient way to alleviateshort-runeconomic hardship. However, dual exchange rate policies have severallong-runeconomic problems.
The primary issue that may arise within an economy operating under a dual exchange rate is misallocation of resources because dual exchange rate will reduce some industry’s favorable exchange rate and those industry will not necessarily reflect its actual need because its performance have been unnaturally inflated.[citation needed]Continual misallocation of resources will eventually cause economic distortion.
A dual exchange rate economy suffering from distortion will incur disparity between the financial exchange rate and the commercial exchange rate. Such an event can lead to the emergence of black markets andarbitragefrom individuals seeking to makecapital gains.Usage of a dual-exchange system in the long-run will cause inflation. The different exchange rates make it possible for a government to incur a loss in foreign currency transactions, resulting in the central bank printing more money to fix the loss. Over the long-run, this will result in significant inflation. If there is no government intervention these issues will persist and create serious economic distortion behavior.[15][citation needed]
References
edit- ^Rutherford, Donald (2013)."Dual Exchange Rate".Routledge Dictionary of Economics.doi:10.4324/9780203102497.ISBN9780203102497.
- ^abGreene, Joshua (2010)."Dual Exchange Rate".The Princeton Encyclopedia of the World Economy.
- ^Rutherford, Donald (2013)."Multiple Exchange Rate".Routledge Dictionary of Economics.doi:10.4324/9780203102497.ISBN9780203102497.
- ^Reinhart, C. M.; Rogoff, K. S. (2004)."The Modern History of Exchange Rate Arrangements: A Reinterpretation"(PDF).The Quarterly Journal of Economics.119:1–48.doi:10.1162/003355304772839515.S2CID152823542.
- ^"Exchange Rate Theory and history of development of the system".Archived fromthe originalon 2018-12-15.Retrieved2017-06-16.
- ^abMarion, Nancy P. (1994)."Dual Exchange Rates in Europe and Latin America"(PDF).The World Bank Economic Review.8(2): 213–245.doi:10.1093/wber/8.2.213.JSTOR3989962.
- ^M.A.G. van Meerhaeghe,The Belgium-Luxemburg Economic Union,Tilburg, SUERF Series 54 A, 1987, p. 10.
- ^Rajan, Ramkishen (1 July 2010)."The Evolution and Impact of Asian Exchange Rate Regimes".Asian Development Bank(208).hdl:11540/1550.ISSN1655-5252.
- ^Eun, Cheol S.; Kılıç, Rehim; Lai, Sandy (2012)."A Tale of Two Exchange Rates: South Africa's Dual-Rate Experiment"(PDF).doi:10.2139/ssrn.2020124.SSRN2020124.
{{cite journal}}:Cite journal requires|journal=(help) - ^abSwoboda, A.K. (1974). "The Dual-Exchange Rate System and Monetary Independence".
{{cite journal}}:Cite journal requires|journal=(help) - ^Mishkin, Frederic S (1999)."Global Financial Instability: Framework, Events, Issues".Journal of Economic Perspectives.13(4): 3–20.doi:10.1257/jep.13.4.3.
- ^Lipsey, Robert E. (1999)."The Role of Foreign Direct Investment in International Capital Flows"(PDF).doi:10.3386/w7094.S2CID166494591.
{{cite journal}}:Cite journal requires|journal=(help) - ^Mikesell, Raymond F. (2001). "Dual Exchange Markets for Countries Facing Financial Crises".World Development.29(6): 1035–1041.doi:10.1016/S0305-750X(01)00015-8.
- ^Lanyi, Anthony (1975). "Separate Exchange Markets for Capital and Current Transactions (Marches des changes distincts pour les operations sur capital et les operations courantes) (Mercados cambiarios separados para las transacciones corrientes y de capital)".Staff Papers - International Monetary Fund.22(3): 714–749.doi:10.2307/3866615.JSTOR3866615.
- ^Adams, Charles; Greenwood, Jeremy (1985)."Dual exchange rate systems and capital controls: An investigation".Journal of International Economics.18(1–2): 43–63.doi:10.1016/0022-1996(85)90004-2.S2CID50717563.