The Real Exchange Rate, Mercantilism and the Learning by Doing Externality

17 Pages Posted: 19 Mar 2008 Last revised: 1 Apr 2008

See all articles by Joshua Aizenman

Joshua Aizenman

National Bureau of Economic Research (NBER)

Jaewoo Lee

International Monetary Fund (IMF) - Research Department

Date Written: March 2008

Abstract

This paper examines the degree to which the learning by doing externality [LBD] calls for an undervalued exchange rate, a policy suggested by recent empirical studies which concluded that mildly undervalued real exchange rate may enhance growth. We obtain mixed results. For an economy where LBD externality operates in the traded sector, real exchange rate undervaluation may be used in order to internalize this externality, if the LBD calls for subsidizing employment in the traded sector. Yet, we also find that these results are not robust to changes in the nature of the LBD externality. If the LBD externality is embodied in aggregate investment, the optimal policy calls for subsidizing the cost of capital in the traded sector, and there is no room for undervalued exchange rate policy. In addition, a deliberate undervaluation by means of hoarding reserves may backfire if the needed sterilization would increase the cost of investment in the traded sector.

Suggested Citation

Aizenman, Joshua and Lee, Jaewoo, The Real Exchange Rate, Mercantilism and the Learning by Doing Externality (March 2008). NBER Working Paper No. w13853. Available at SSRN: https://ssrn.com/abstract=1106579

Joshua Aizenman (Contact Author)

National Bureau of Economic Research (NBER) ( email )

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

Jaewoo Lee

International Monetary Fund (IMF) - Research Department ( email )

700 19th Street NW
Washington, DC 20431
United States
202-623-7331 (Phone)
202-623-6334 (Fax)

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