What Is a Revaluation?
A revaluation is a calculated upward adjustment to a country’s official exchange rate relative to a chosen baseline. This baseline can include factors such as wage rates, the price of gold, or a foreign currency. Revaluation serves as the opposite to devaluation, which is the downward adjustment of a country’s official exchange rate.
Key Takeaways
- A revaluation is a deliberate increase in a country’s official exchange rate relative to a baseline, such as wage rates, the price of gold, or a foreign currency.
- In a fixed exchange rate regime, only a country’s government, through its central bank, can alter the official value of the currency.
- In floating exchange rate systems, currency revaluation can be triggered by a variety of events, including changes in interest rates between various countries or large-scale events impacting an economy.
Deep Dive into Currency Revaluation
Fixed vs. Floating Exchange Rates
In a fixed exchange rate regime, a country’s government, typically via its central bank, can alter the official value of the currency. Developing economies are more inclined to use a fixed-rate system to curb speculation and maintain stability.
On the other hand, a floating rate system allows revaluation to occur regularly, influenced by market dynamics. For example, the U.S. transitioned from a fixed exchange rate until 1973 to a floating rate system when President Richard Nixon removed the United States from the gold standard. Similarly, although China has a robust economy, its currency has been fixed since 1994 and was revalued in 2005 from being pegged to the U.S. dollar to a basket of world currencies.
Effects of Revaluations
Revaluations impact the currency in question and alter the value of assets held by foreign entities in that currency. As revaluation changes the exchange rate between two currencies, the book values of foreign-held assets need to be adjusted accordingly.
Practical Example
Consider a foreign government setting 10 units of its currency equivalent to $1 U.S. dollar. If the government revalues the currency to 5 units per dollar, it makes their currency twice as expensive against the U.S. dollar. Consequently, assets in foreign currency held by a U.S. entity would see their value double. For example, an asset valued at $100,000 before revaluation would now be revalued to $200,000 in the home currency.
Causes of a Revaluation
Several events can trigger a currency revaluation. Common causes include:
- Interest Rate Changes: Variations in interest rates between countries can lead to currency fluctuations.
- Economic Events: Large-scale events affecting a country’s profitability and competitiveness can cause revaluation.
- Leadership Changes: Shifts in political leadership may signal economic stability changes and trigger revaluation.
- Speculative Demand: Speculative actions based on uncertain events, such as the 2016 Brexit vote, can cause currency value to fluctuate.
Effects on Trade and Economy
Positive and Negative Impacts
A currency revaluation increases the currency’s value relative to others, making foreign goods cheaper for domestic buyers while making exports more expensive to foreign purchasers. This can lead to reduced export activities but cheaper imports, affecting local businesses and international trade balances.
Good or Bad?
Revaluations are generally seen as beneficial for the country implementing them because they strengthen its currency. However, it’s a double-edged sword; while it boosts the currency’s value, it also makes the nation’s goods more costly internationally, potentially hurting export volumes. This highlights the interconnected nature of global economies.
Strategies to Strengthen Currency
Countries may employ various strategies to increase the value of their currency. These include purchasing their currency while selling foreign exchange assets, raising interest rates, reducing inflation, and implementing policies to boost economic competitiveness.
Related Terms: exchange rate, inflation, gold standard, currency pegging, central bank.
References
- Investment Executive. “China Removes Yuan’s Peg to U.S. Dollar”.
- International Monetary Fund. “The End of the Bretton Woods System (1972-1981)”.
- The Washington Post. ‘“Brexit’ Could Send Shock Waves Across U.S. and Global Economy”.
