* (Article from the NY Federal Reserve regarding LOP or devaluation of currency): OOM 2/22/12
February 22nd, 2012 04:04 pm · Posted in CHATS & POSTS (Iraqi Dinar Info)
This article comes from the NY Federal Reserve.
Lets look at a few key points.
Under What Circumstances Might a Country Devalue? When a government devalues its currency, it is often because the interaction of market forces and policy decisions has made the currency’s fixed exchange rate untenable. In order to sustain a fixed exchange rate, a country must have sufficient foreign exchange reserves, often dollars, and be willing to spend them, to purchase all offers of its currency at the established exchange rate. When a country is unable or unwilling to do so, then it must devalue its currency to a level that it is able and willing to support with its foreign exchange reserves.
One of the things the CBI seems to be very proud of is that their foreign reserves are the highest in the history of the country so this point doesn’t seem to be one that would make Iraq want to devalue or LOP their currency.
A key effect of devaluation is that it makes the domestic currency cheaper relative to other currencies. There are two implications of a devaluation. First, devaluation makes the country’s exports relatively less expensive for foreigners. Second, the devaluation makes foreign products relatively more expensive for domestic consumers, thus discouraging imports. This may help to increase the country’s exports and decrease imports, and may therefore help to reduce the current account deficit.
Currently Iraq has no products to export other than oil and they don’t want their oil exports to be cheaper they want to sell them for the same price all the other countries are selling them for. Besides that Iraq has no manufacturing right now so they have no domestic products to consume meaning that if they make imports more expensive that is going to be a huge negative for the people of Iraq.
There are other policy issues that might lead a country to change its fixed exchange rate. For example, rather than implementing unpopular fiscal spending policies, a government might try to use devaluation to boost aggregate demand in the economy in an effort to fight unemployment. Revaluation, which makes a currency more expensive, might be undertaken in an effort to reduce a current account surplus, where exports exceed imports, or to attempt to contain inflationary pressures.
(The only comment I can make here is that inflation doesn’t seem to be a huge problem right now and devaluing their currency to fight inflation when it seems to be pretty much under control doesn’t make sense.)
Effects of Devaluation A significant danger is that by increasing the price of imports and stimulating greater demand for domestic products, devaluation can aggravate inflation. If this happens, the government may have to raise interest rates to control inflation, but at the cost of slower economic growth.
Iraq has no domestic products to speak of so why try to stimulate a greater demand for domestic products if there are none until they build their country up first? Oh and speaking of that, can they really afford slower economic growth? They want their economy to grow FAST not slower!
Another risk of devaluation is psychological. To the extent that devaluation is viewed as a sign of economic weakness, the creditworthiness of the nation may be jeopardized. Thus, devaluation may dampen investor confidence in the country’s economy and hurt the country’s ability to secure foreign investment.
OK, so we hear a lot of talk about how the GOI wants the people of Iraq to be confident in their country and their currency. A LOP does the exact opposite of that. Is this what they want to accomplish? I don’t think so. Oh and do they REALLY want to dampen investor confidence and hurt the country’s ability to secure foreign investment? NO, they want to encourage foreign investment, that is what they are trying to accomplish here folks!!!
Another possible consequence is a round of successive devaluations. For instance, trading partners may become concerned that a devaluation might negatively affect their own export industries. Neighboring countries might devalue their own currencies to offset the effects of their trading partner’s devaluation. Such “beggar thy neighbor” policies tend to exacerbate economic difficulties by creating instability in broader financial markets.
(I don’t see Kuwait devaluing their currency, but I guess Iran or Syria might, but oil is the main product these countries have to export and this type of devaluation usually occurs with countries exporting a finished product that other countries want to import like China does with all its manufacturing which is a completley different ball game than the one Iraq is playing in.)
You can go read the whole article for yourself but reading this tells me that Iraq does not want to devalue or LOP their currency because it is counter productive to everything they are trying to do here. Go ahead and beat me up if you want, but I don’t see a LOP as doing anything but going against everything Iraq is trying to accomplish here.