Consider the following statements: The effect of devaluation of a currency is that it necessarily 1.…
Consider the following statements: The effect of devaluation of a currency is that it necessarily 1. improves the competitiveness of the domestic exports in the foreign markets 2. increases the foreign value of domestic currency 3. improves the trade balance. Which of the above statements is/are correct?
1 only
1 and 2
3 only
2 and 3
Solution
Devaluation necessarily makes domestic exports cheaper and more competitive abroad (Statement 1 correct). It decreases (not increases) the foreign value of domestic currency (Statement 2 incorrect). Improvement in trade balance is not automatic (Marshall-Lerner condition) (Statement 3 incorrect).