REER : the leading indicator
- 1999
- p.123-51
- Monsoon
This paper empirically evaluates the significance of the REER as a leading indicator of currency crises using the experience of the recently affected Asian economies as a benchmark. The results of the study indicate that while real overvaluations must be corrected in an orderly manner in the medium to long-run, any policy to use exchange rate as an instrument to gain external competitiveness may prove ineffective in the long-run. Estimates suggest that REER misalignments in India get corrected by 7.7 per cent and 6.0 per cent per quarter through nominal exchange rate adjustments and domestic price movements, respectively. Greater exchange rate flexibility and trade/structural reforms facilitating enhanced wage price flexibility, therefore, could be crucial to ensure convergence of cross border prices and avoid sustained misalignment in the exchange rate. - Reproduced