When and Why Worry About Real Exchange Rate Appreciation? The Missing Link Between Dutch Disease and Growth

33 Pages Posted: 1 Feb 2011

See all articles by Nicolás E. Magud

Nicolás E. Magud

International Monetary Fund (IMF)

Sebastiàn Sosa

International Monetary Fund (IMF) - Western Hemisphere Department

Date Written: December 2010

Abstract

We review the literature on Dutch disease, and document that shocks that trigger foreign exchange inflows (such as natural resource booms, surges in foreign aid, remittances, or capital inflows) appreciate the real exchange rate, generate factor reallocation, and reduce manufacturing output and net exports. We also observe that real exchange rate misalignment due to overvaluation and higher volatility of the real exchange rate lower growth. Regarding the effect of undervaluation of the exchange rate on economic growth, the evidence is mixed and inconclusive. However, there is no evidence in the literature that Dutch disease reduces overall economic growth. Policy responses should aim at adequately managing the boom and the risks associated with it.

Keywords: Capital inflows, Commodity price fluctuations, Economic growth, Exchange rate appreciation, External shocks, Fiscal policy, Monetary policy, Real effective exchange rates

Suggested Citation

Magud, Nicolas E. and Sosa, Sebastian, When and Why Worry About Real Exchange Rate Appreciation? The Missing Link Between Dutch Disease and Growth (December 2010). IMF Working Paper No. 10/271, Available at SSRN: https://ssrn.com/abstract=1751383

Nicolas E. Magud

International Monetary Fund (IMF) ( email )

700 19th Street, N.W.
Washington, DC 20431
United States

Sebastian Sosa

International Monetary Fund (IMF) - Western Hemisphere Department ( email )

700 19th Street NW
Washington, DC 20431
United States

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