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|Title:||Currency Devaluations And Implications Of The Correspondence Principle|
|Authors:||Ali, Syed Z.|
|Advisor:||Scarth(Chairman),F.T.DentonProfessor,A.L.Robb, W. M.|
|Abstract:||<p>Are devaluations contradictory? Do devaluations ensure improvement in the balance of payments? These questions have attracted much attention in recent years, since during that time, macro-economists have developed models involving intermediate imports. In such a framework, the exchange rate has both expansionary demand-side and contradictory supply-side effects.</p> <p>A number of studies, both theoretical and empirical, have explored the relative size of the competing effects that follow from devaluations. However, most of the studies involve very limited or specialized models. For example, most studies deal with a specific form of the production function, and dynamic analysis of exchange rate devaluation is almost always absent. As a result, very few studies shed any light on the relationship between stability of the model and the likelihood of contradictory devaluation. Furthermore, except for one, none of the studies has examined devaluation's effects under different tax system.</p> <p>In this thesis, we extend those models which have imposed the bare minimum of restrictions on the production relationship, and which pay explicit attention to dynamics. The whole thesis can be viewed as two main essays. In the first main essay (Chapters 3 and 4) we focus on the likelihood of contradictory devaluation in a model with a general production function involving imported inputs. In this essay the inconsistencies in BuffIe (International Economic Review 1986) are corrected. Furthermore, some sensitivity tests are also performed in this essay. These stem from the alternative specifications of wage flexibility, inflationary expectations, the definition of the money demand function, and alternative degrees of capital mobility. In the second main essay (Chapter 5) a sensitivity analysis of an improved version of the Lai and Chang model (Journal of Macroeconomics 1989) is presented. In this essay we have investigated how the supply-side effects of taxes and exchange rates interact (when the tax systems is not fully indexed) to complicate the effects of devaluation.</p> <p>In our first essay we noticed that regardless of alternative specifications of wage flexibility and of inflationary expectations the strong BuffIe's results do not hold in general. BuffIe derived the result that if the system is locally stable then devaluation cannot both contract employment and worsen the balance of payments of the country. Furthermore, if labour and the imported inputs are gross substitutes then devaluation both increases employment and improves the balance of payments (given stability). However, when we assume that the aggregate demand function for goods is negatively sloped in the price/output plane then it is seen that in stable economies all the results derived by Buffie hold true.</p> <p>In this same essay we found that in case of perfect capital mobility the employment effect of devaluation largely depends upon the alternative specifications of the wage flexibility and of inflationary expectations. It is seen that if workers have perfect foresight then devaluation has an ambiguous effect on employment, expansionary when workers have static expectations, and neutral when the real wage is sticky at each point in time.</p> <p>As far as our second essay is concerned, we have studied the effects of devaluations when the supply-side effects of exchange rates are studied through the labour market. We have developed a model which contains the Lai and Chang model as a special case. For convenience, however, we have solved the model for two cases, one which addresses taxation issues and one which deals with Laursen-Metzler effects. The models in both taxation issues and Laursen and Metzler cases are solved for zero and perfect capital mobility.</p> <p>For zero capital mobility and with plausible parameter values, we found that the strong Lai and Chang result holds true. Lai and Chang derived the result that if workers are free of any money illusion then regardless of the nature of the tax system (proportional versus progressive) devaluation necessarily contracts output. When we permitted some money illusion it is seen that the output effect of devaluation cannot be determined conclusively. However, with perfect capital mobility, or with government policy that fixes the domestic rate of interest, (and assuming plausible parameters values) it is seen that if workers are not suffering from any money illusion, then devaluation is neutral for proportional taxation, contradictory for progressive taxation, and expansionary for regressive taxation. On the other hand, when we permitted some money illusion it is seen that the output will increase with devaluation both for proportional and regressive taxation. While in the case of progressive taxation, the output effect of devaluation largely depends upon the output elasticity of the tax system and of the degree of money illusion.</p>|
|Appears in Collections:||Open Access Dissertations and Theses|
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