Fixed Exchange Rates, Real Undervaluation and Economic Growth

Rui Mao[1]    Yang Yao[2]

No. E2014002     June 2014

Abstract: This note studies a mechanism for the fixed exchange rate regime (FERR) to promote economic growth. When the total factor productivity (TFP) grows faster in the industrial sector than in the service sector, the FERR dampens the Balassa-Samuelson effect by shutting down nominal exchange rate adjustment as a channel of real appreciation. This function is more pronounced when labor is redundant in the economy. With WDI data of sectoral value-added, we are able to estimate the sectoral relative TFP of industry and services and test these conclusions.

Keywords: Fixed exchange rate regime, real undervaluation, economic growth

JEL classification: F31, F43, O41

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[1]School of Management, Zhejiang University, email: mao.ray@gmail.com.

[2]National School of Development and China Center for Economic Research, Peking University, email: yyao@nsd.pku.edu.cn.

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