The Importance of Multiple Exchange Rates

Multiple exchange rates can be used to cure a deficit in the balance of payments. A lower rate of exchange may be applied to some commodities, for stimulating their export.

It may be applied to commodities whose domestic price is higher than the world price, or whose social cost of production is lower than the private money cost. Export industries might be granted foreign exchange for the import of capital goods, technical know-how, and essential raw materials at a favorable exchange rate.

To induce the exporters to increase exports, they may be allowed to sell a part of their foreign exchange earnings from additional exports in the open market. Multiple exchange rates can be used to encourage exports to (and to discourage imports from) hard currency areas.

Multiple exchange rates are more effective than an overall depreciation in curing a deficit in the balance of payments. The effect of an overall depreciation is offset, to some extent, by commodities whose elasticity of home demand for imports, or that of foreign demand for exports, is less than unity.

A selective depreciation can be applied to those commodities only whose elasticity of home demand for import, or that of foreign demand for exports, is more than unity. An overvalued exchange rate might be applied to other commodities, in order to achieve the best results.

The developing countries are likely to have disequilibrium in their balance of payments, only with those particular countries which are an important source of the supply of capital goods, technical know-how, and essential raw materials.

In a world in which the currencies are not mutually convertible, it is better for a country having deficits with some countries to lower its rate of exchange, only vis-à-vis these particular countries, rather than lowering the overall exchange rate.

Lowering of the overall exchange rate to cure a deficit with particular countries will accentuate the problem of the rest of the world with which this country is having a surplus; thus, multiple exchange rates can cure disequilibrium with particular countries, by restricting the minimum world trade.

Multiple exchange rates may be used to discourage the outflow of domestic or foreign capital, by fixing a lower exchange rate for the outflow of capital. Similarly, the inflow of foreign capital can be encouraged by offering a favorable exchange rate for the inflow of a new capital.

It will accelerate the rate of investment, and mitigate deficits in the balance of payments. This, however, is likely to have adverse effects on the inflow of capital, by generating a feeling of uncertainty and risk about the exchange rate at the time of repatriation of capital, or income from there.

Multiple exchange rates might used to channel foreign capital into desirable lines of production, in conformity with the national plans for development.