Exchange Rates

Christ Amlai
November 28, 2022

Homework (Section C) Between January and August

2018, Turkey’s currency, the lira, depreciated by nearly
40% against the US dollar.
Evaluate the likely macroeconomic effects of a depreciation of a country’s currency. Refer to a country of
your choice in your answer. [25 marks]

One likely macroeconomic effect of a depreciation in the Turkish lira, for Turkey, is a contraction of imports and
expansion of exports. A weaker currency, can help Turkish exports become more competitive, internationally
as less foreign currency is required for the same amount of goods/services. In theory, international demand will
chase after lower priced goods/services which can cause exports to expand and possibly strengthen Turkey’s
trade balance. As exports are a component of AD, ( C + I + G + (X-M) ), an expansion of exports may see
AD shifting outwards to AD2 which will also increase Turkey’s real GDP. However in reality this may not be
the case. Turkey’s biggest export, vehicles and vehicle parts, require many highly specialized parts that are
imported. An increase in the price of imports, will see the cost passed down to foreign buyers which makes
Turkish car parts less internationally attractive. Therefore the outwards AD shift may be negligible but may not
shift inwards as Turkey is also a major domestic producer of wheat, which is not heavily reliant on the price of
imports. Moreover, in the short run worsening of the trade balance will be caused, as depicted by the J-curve
and will only recover in the long-run.
Secondly, imports may contract. Imports can become more expensive as more lira is required for the same
amount of goods/services. As the price of imports increase, in theory demand for them will cause a contraction
in imports. This may cause cost-push inflation, as demonstrated by the price markup from P1 to P2 and see a
decrease of money in the circular flow of income. Not all imports may face a contraction, as imports such as oil
are relatively inelastic yet will still see its price increasing. Cost-push inflation may decrease consumption as
inflation eats away at wages and if wages cannot catch up to the rate of inflation, AD may actually shift to AD3.
However, whilst imported goods/services may see their demand decline, demand for domestic goods/services
may increase. Which may have subsequent effects such as increased employment.

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 An additional macroeconomic effect is an increase in consumption. Remittances compose 9% of Turkey’s
total GDP. Remittance inflows measured in US dollars will be worth more within the Turkish economy. This
will add to household disposable income and may see consumer spending increase. Moreover, AD1 may shift
further outwards to AD2 as if the scale of ”40% against the US dollar” is considered remittances will be worth
even more which could cause consumption to increase even further. However, whether or not this can be seen
in practice is dependant on inflation. Despite more money in the Turkish circular flow of income, due to inflation,
more lira is required for the same amount of goods/services which may see an increase in consumption to be
diminutive.

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 takes times for exporters to increasek wait and see attitudes, trade fairs therefore in the short-term it may
be worsen hopefully, net imporvement in trade imporves, conditions must be maketitle