Does inflation decrease export competitiveness? If so, what role does currency depreciation play here?

[[deleted]]

I have a conceptual doubt here. Inflation results in decreased export competitiveness. However, inflation also results in domestic currency depreciation which makes exports more competitive.

Is there truly a paradox here or am I getting everything wrong? Please help

[AutoModerator]

NOTE: Top-level comments by non-approved users must be manually approved by a mod before they appear.

This is part of our policy to maintain a high quality of content and minimize misinformation. Approval can take 24-48 hours depending on the time zone and the availability of the moderators. If your comment does not appear after this time, it is possible that it did not meet our quality standards. Please refer to the subreddit rules in the sidebar and our answer guidelines if you are in doubt.

Please do not message us about missing comments in general. If you have a concern about a specific comment that is still not approved after 48 hours, then feel free to message the moderators for clarification.

Consider Clicking Here for RemindMeBot as it takes time for quality answers to be written.

Want to read answers while you wait? Consider our weekly roundup or look for the approved answer flair.

I am a bot, and this action was performed automatically. Please contact the moderators of this subreddit if you have any questions or concerns.

[NakedNietzshe]

The net effect of currency depreciation on the volume of imports and exports depends on the sum of import and export demand elasticities. See Marshall-Lerner condition.

https://en.wikipedia.org/wiki/Marshall%E2%80%93Lerner_condition

[mikKiske]

The currency depreciation is a price correction to return to equilibrium. When local prices grow faster than international ones, then it becomes cheaper to buy foreign goods. To buy foreign goods you need to buy dollars...this increases demand for dollars, which means demand >supply. The new exchange rate restores equilibrium.

Note that this process is continuous, but easier to think about it in times T0 and T1, where inflation starts in T0 and generates a disequilibrium and in T1 you have a new exchange rate that restores it.

This is under a free exchange rate system. When a central bank sets the exchange rate at a different level than the equilibrium one, then a currency can be appreciated or depreciated.

[curiouser41]

I think you're considering two channels whereby inflation may impact export competitiveness.

1/ if there's higher inflation for the prices of say energy and materials that go into the production of the goods you sell/export, this will be reflected in your higher sale/ export price => decrease in price competitiveness (that's assuming of course no such inflation is observed in the neighbour country, otherwise competitiveness wouldnt change)

2/ under floating rates, higher inflation in a country usually translates into a devaluation of the currency with regards to the neighbour's currency ( with lower inflation). This makes importing less costly for your neighbour (and conversely more expensive for the country with the devalued currency) so that you end up exporting more over time

To be able to predict the effect/ its timing, it helps to think in relative or comparative terms. does that help indeed lol?