Some Economic Aspects of Multiple Exchange Rates

Abstract

NE FUNCTION of exchange rates is to assist in bringing a country's international payments into a tenable balance, one in which receipts on current and ordinary capital account are adequate to meet payments on current and ordinary capital account. With satisfactory exchange rates, a country ought not to find it necessary, when the world economic environment is reasonably favorable, to impose restrictions, to deplete its monetary reserves, or to seek extraordinary financing to meet a balance of payments deficit. This function is performed in two ways. On the one hand, by bringing foreign prices and domestic costs into a relationship which is satisfactory for exports, the exchange rate should encourage a supply of exports sufficient to provide the foreign exchange needed for imports and other payments. On the other hand, by bringing foreign prices for its imports and domestic prices for home output into a satisfactory relationship, the exchange rate should limit the demand for imports to the amount that can be paid for with current exchange receipts and normal capital inflow. This does not imply, of course, that the exchange rate is the only factor that determines the flow of foreign exchange receipts and payments. The effects which exchange rates have on exports and on imports might be examined independently of each other. Before doing this, however, two other general points should be emphasized: First, in any system free from exchange controls, the export rate and the import rate (i.e., the buying rate and the selling rate) will be substantially the same. Second, any country for whose exports the world demand is infinitely elastic, and for whose imports the world supply is infinitely elastic, will secure the maximum advantage from its international trade by having substantially the same rate for exports and imports. Where recipients of exchange are free to dispose of the exchange, they will sell it at a rate uniform for all sellers and substantially equal to that paid by importers. Buyers of exchange have no reason to dis-