Palmira's currency, the corona, is currently valued at 1 corona = $0.50 on the foreign exchange market. Palmira's central bank pursues a policy of managed depreciation, allowing market forces to push the exchange rate down to 1 corona = $0.40, in order to make Palmira's exports…

Answer: ((a)) The dollar value of the corona falls by 20%, calculated as 0.40-0.50/0.50×100=-20% ((b)) The depreciation makes Palmira's exports cheaper in foreign-currency terms and imports dearer in corona terms, so (assuming demand for exports and imports is responsive enough to these price changes) export volumes rise and import volumes fall, raising net exports, aggregate dem… ((c)) The same depreciation makes imported raw materials, machinery and imported consumer goods more expensive in corona terms, raising firms' costs and shop prices directly, which is cost-push inflation that conflicts with Palmira's low-inflation objective. Part (a): The percentage change in the dollar value of the corona Using the original dollar value of $0.50 as the base: % = 0.40-0.50/0.50×100 = -0.10/0.50×100 = -20% The dollar value of the corona falls by 20%. This is a depreciation of t…

A2 Economics 9708: Calculating and Evaluating a Currency Depreciation

Part (a): The percentage change in the dollar value of the corona

Using the original dollar value of $0.50 as the base:

$\%\Delta = \frac{0.40-0.50}{0.50}\times100 = \frac{-0.10}{0.50}\times100 = -20\%$

The dollar value of the corona falls by 20%. This is a depreciation of the corona.

Part (b): How the depreciation could raise growth and improve the current account

A weaker corona means that, for a given corona price, Palmira’s exports are now cheaper when converted into foreign currency, while imports become more expensive in corona terms for Palmira’s own residents and firms. If the combined price responsiveness of exports and imports is large enough (the Marshall-Lerner condition), foreign buyers purchase more of Palmira’s exports and domestic buyers switch some spending away from imports towards domestically produced goods. Export revenue rises relative to import spending, so net exports ( $X-M$ ) increase. This directly adds to aggregate demand, raising Palmira’s real output and growth, and, because export earnings rise relative to import spending, it also improves the current account balance.

Part (c): How the same depreciation conflicts with low inflation

The same price change that helps exports also raises the corona cost of anything Palmira imports. Firms that rely on imported raw materials, components or machinery now face higher production costs, some of which they pass on as higher prices. Imported consumer goods, such as electronics or fuel, also become more expensive directly for Palmira’s households. This is cost-push inflation, driven by higher import costs rather than by excess demand, and it works directly against Palmira’s objective of low and stable inflation, illustrating a genuine conflict created by the same exchange rate policy that helps growth and the current account.

Final answers

(a) The corona’s dollar value falls by 20%
(b) Cheaper exports and dearer imports raise net exports, boosting growth and improving the current account, if export and import volumes are price-responsive enough
(c) Dearer imported inputs and consumer goods create cost-push inflation, conflicting with the low-inflation objective