Saturday, August 22, 2009

Devaluation, its Merits and Demerits

Devaluation means to increase in the value of domestic currency in terms of foreign currencies. For example if the rate of one US dollar was equal to rupees 50. Now government of Pakistan decided to devalue her currency and new rate may be fixed as one US dollar equal to 60 rupees. This process is known as devaluation. In case of the devaluation the currency becomes cheaper from the point of view of other countries.
OBJECTS OF DEVALUATION
1. BALANCE OF PAYMENTS
Devaluation may be used to correct the balance of payment position, because when a country devaluates her currency then its exports are increased.
2. ENCOURAGE THE EXPORTS
Devaluation policy is also adopted to encourage the exports of the country. Because when the currency is devalued then commodities become cheap for other countries and they increase their demand.
3. DISCOURAGE IMPORTS
Another object of devaluation is to discourage the imports. Because when the currency is devalued then imported goods become costly, so people reduce their demand for imported goods.
4. FOREIGN LOANS
If the value of home currency is higher then foreign countries are not agreed to give loans. So then main object of devaluation is to get the foreign loans for economic development of the country.
5. PRICE STABILITY
Price stability is an other object of devaluation. When government finds that prices are decreasing then government devalues the currency for stability in price.
6. RETALIATION
Some times one country devalues her currency to increase the exports but other countries also devalues their currencies so that the former can not get benefits.
7. OVER VALUATION
Some times value of currencies is artificially higher than its true value. So the main object of devaluation is to correct the over valuation of the currencies.
MERITS OF DEVALUATION
1. FOREIGN INVESTMENT
With the help of devaluation the foreign investment is increased. Because foreigners find it more cheaper to invest in devaluing country.
2. FOREIGN LOANS
When the currency is devalued then foreign countries are agreed to give loans at lower rate. These loans may be utilised for the development of the country.
3. CONTROL ON SMUGGLING
Due to devaluation the smuggling becomes unprofitable because the foreign goods become costly.
4. BALANCE OF PAYMENT
With the help of devaluation the level of exports is increased while the level of imports is decreased. So in this way the balance of payment position is improved.
5. ECONOMIC DEVELOPMENT
With the help of devaluation the foreign investment is encouraged. When the investment increased then economic development is increased.
6. EXCHANGE RATE
Devaluation is helpful weapon to set up new exchange rate which is more practical and realistic. When the currency is over valued devaluation brings equilibrium in extreme and internal values of currency.
7. FOREIGN RECEIPTS
When the currency is devalued then the living in foreign countries sent more foreign currency to home land because they can get more home currency. In this way the foreign exchange is also increased.
8. ENCOURAGEMENT TO INDUSTRY
When the currency is devalued then the demand of goods produced by domestic industries is increased in international market. In this way the sales volume of domestic industries rise up.
DEMERITS OF DEVALUATION
1. RETALIATION
Some times one country devalues her currency to increase the exports but other countries also follow the same policy. So devaluation becomes useless.
2. FOREIGN DEBTS
Devaluation increases the burden of foreign debts in the term of home currency because the amount of loan increases in relation to home currency.
3. PRICE LEVEL INCREASE
Due to the devaluation prices of imported goods become high which bring the inflation. The prices of imported raw materials and machines become also high due to which goods manufactured in domestic industry also become costly.
4. TERMS OF FOREIGN TRADE
If the currency is devalued then country has to pay the large amount of money for imports. So the foreign trade is adversely affected.
5. SHORTAGE OF CAPITAL
If the currency is devalued then goods and machines become costly. So large amount of capital is required for starting business.
6. TEMPORARY TREATMENT
Devaluation is a temporary treatment for the correction of adverse balance of payment. But it is not useful in long run.

1 comment:

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