Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains

This paper shows that real exchange rate undervaluation through the accumulation of foreign reserves may improve welfare in economies with learning-by-investing externalities that arise disproportionately from the tradable sector. In the presence o...

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Main Authors:	Korinek, Anton, Servén, Luis
Format:	Policy Research Working Paper
Language:	English
Published:	Washington, DC: World Bank 2012
Subjects:	ABSOLUTE VALUE ACCUMULATION OF CAPITAL ADVERSE SHOCKS AGENCY PROBLEM AGENCY PROBLEMS AGGREGATE CAPITAL STOCK ALLOCATION OF CAPITAL AMOUNT OF CAPITAL BENCHMARK BUDGET CONSTRAINT CAPITAL ACCOUNT CAPITAL ACCOUNT OPENNESS CAPITAL ACCOUNT RESTRICTIONS CAPITAL ACCOUNTS CAPITAL ACCUMULATION CAPITAL ALLOCATION CAPITAL FLIGHT CAPITAL FLOWS CAPITAL FORMATION CAPITAL INCOME CAPITAL INFLOW CAPITAL INFLOWS CAPITAL INVESTMENT CAPITAL MARKET CAPITAL MARKETS CAPITAL OUTFLOW CAPITAL OWNERS CAPITAL SHARE CAPITAL SHARES CAPITAL STOCK CLOSED CAPITAL ACCOUNTS CLOSED ECONOMY COMPARATIVE ADVANTAGE CONSUMERS CONSUMPTION GROWTH COST OF INVESTMENT CRRA CURRENCY CURRENT ACCOUNT CURRENT ACCOUNT BALANCE CURRENT ACCOUNT DEFICITS CURRENT ACCOUNT SURPLUS DEPRECIATION DEPRECIATION RATE DEVALUATION DEVELOPING COUNTRIES DEVELOPMENT ECONOMICS DIFFERENTIAL TAXATION DISCOUNTED VALUE DISTORTION DISTORTIONS DOMESTIC CAPITAL DOMESTIC CONSUMPTION DOMESTIC CURRENCY DOMESTIC ECONOMY DOMESTIC INTEREST RATE DOMESTIC INTEREST RATES DOMESTIC PRICE DUTCH DISEASE ECONOMIC DEVELOPMENT ECONOMIC GROWTH ECONOMIC IMPLICATIONS ELASTICITY ELASTICITY OF SUBSTITUTION EMERGING ECONOMIES EMERGING MARKET EMERGING MARKET COUNTRIES EQUILIBRIA EQUILIBRIUM EQUILIBRIUM CONDITION EQUILIBRIUM CONDITIONS EXCHANGE RATE DEVALUATION EXPENDITURE EXPENDITURES EXPORT SUBSIDIES EXPORT SUBSIDY EXTERNALITIES EXTERNALITY FACTOR MARKETS FAIR TRADE FINANCIAL ASSETS FINANCIAL SUPPORT FISCAL POLICY FOREIGN DIRECT INVESTMENT FOREIGN INTEREST FOREIGN INTEREST RATES FOREIGN INVESTMENT FOREIGN RESERVE FOREIGN RESERVES FRAUD FREE TRADE GDP GENERAL EQUILIBRIUM GENERAL EQUILIBRIUM MODELS GLOBAL ECONOMY GOVERNMENT EXPENDITURE GOVERNMENT FINANCES GOVERNMENT INTERVENTION GOVERNMENT INVESTMENT GOVERNMENT POLICIES GOVERNMENT POLICY GOVERNMENT REVENUE GOVERNMENT SPENDING GROWTH MODELS GROWTH RATE GROWTH RATES HOLDING HOLDINGS HUMAN CAPITAL IMPORT IMPORT TARIFF IMPORT TARIFFS IMPORTS INCOME INCOME EFFECT INCREASING RETURNS INCREASING RETURNS TO SCALE INDIFFERENCE CURVES INFANT INDUSTRY ARGUMENT INFLATION INSTITUTIONAL CAPACITIES INSTITUTIONAL CAPACITY INSTRUMENT INSURANCE INTANGIBLE INTEREST INCOME INTEREST RATE INTEREST RATES INTERNATIONAL BANK INTERNATIONAL ECONOMICS INTERNATIONAL INTEREST INTERNATIONAL INTEREST RATE INTERNATIONAL PRICE INTERNATIONAL TRADE INVESTING INVESTMENT EXPENDITURES INVESTMENT OPPORTUNITIES INVESTMENT RATE LABOR MARKET LDCS LEVEL OF INVESTMENT LEVIES MACROECONOMICS MARGINAL PRODUCT MARGINAL PRODUCTIVITY MARKET CONDITION MARKET EQUILIBRIUM MARKET INTEREST RATE MARKET POWER MARKET PRICE MARKET PRICES MERCANTILISM MONEY HOLDINGS MULTILATERAL TRADE NATURAL RESOURCE NATURAL RESOURCES NEGATIVE EXTERNALITIES NET EXPORTS NOMINAL EXCHANGE RATE OPEN ECONOMY OPTIMAL ALLOCATION OPTIMIZATION ORGANIZATIONAL CAPITAL POLICY RESPONSES POLITICAL ECONOMY PREVAILING MARKET PRICES PRIVATE CAPITAL PRIVATE CAPITAL STOCK PRIVATE INVESTMENT PRIVATE INVESTMENTS PRODUCTION FUNCTION PRODUCTION FUNCTIONS PRODUCTIVE INVESTMENT PRODUCTIVITY PRODUCTIVITY GROWTH PROFIT MAXIMIZATION PUBLIC GOOD PUBLIC INVESTMENT PUBLIC ¯ SPENDING RATE OF RETURN RATES OF RETURN REAL COST REAL EXCHANGE RATE RELATIVE PRICE RELATIVE WEIGHTS RESERVE RESERVE ACCUMULATION RESERVES RETURN SAVINGS RATE SAVINGS RATES SEIGNIORAGE SLOW GROWTH SPECULATIVE CAPITAL INFLOWS STEADY STATE SUBSTITUTION EFFECT SUPPLY OF CREDIT TAX TAX CREDIT TAX POLICY TAX RATE TAX RATES TAXATION TOTAL OUTPUT TRADABLE GOOD TRADABLE GOODS TRADE AGREEMENTS TRADE DEFICIT TRADE POLICY UNDERVALUATION UTILITY FUNCTION WAGES WORLD ECONOMY WORLD INTEREST RATE WORLD MARKET WTO
Online Access:	http://www-wds.worldbank.org/external/default/main?menuPK=64187510&pagePK=64193027&piPK=64187937&theSitePK=523679&menuPK=64187510&searchMenuPK=64187283&siteName=WDS&entityID=000158349_20100325103944 http://hdl.handle.net/10986/3737

id	okr-10986-3737
recordtype	oai_dc
repository_type	Digital Repository
institution_category	Foreign Institution
institution	Digital Repositories
building	World Bank Open Knowledge Repository
collection	World Bank
language	English
topic	ABSOLUTE VALUE ACCUMULATION OF CAPITAL ADVERSE SHOCKS AGENCY PROBLEM AGENCY PROBLEMS AGGREGATE CAPITAL STOCK ALLOCATION OF CAPITAL AMOUNT OF CAPITAL BENCHMARK BUDGET CONSTRAINT CAPITAL ACCOUNT CAPITAL ACCOUNT OPENNESS CAPITAL ACCOUNT RESTRICTIONS CAPITAL ACCOUNTS CAPITAL ACCUMULATION CAPITAL ALLOCATION CAPITAL FLIGHT CAPITAL FLOWS CAPITAL FORMATION CAPITAL INCOME CAPITAL INFLOW CAPITAL INFLOWS CAPITAL INVESTMENT CAPITAL MARKET CAPITAL MARKETS CAPITAL OUTFLOW CAPITAL OWNERS CAPITAL SHARE CAPITAL SHARES CAPITAL STOCK CLOSED CAPITAL ACCOUNTS CLOSED ECONOMY COMPARATIVE ADVANTAGE CONSUMERS CONSUMPTION GROWTH COST OF INVESTMENT CRRA CURRENCY CURRENT ACCOUNT CURRENT ACCOUNT BALANCE CURRENT ACCOUNT DEFICITS CURRENT ACCOUNT SURPLUS DEPRECIATION DEPRECIATION RATE DEVALUATION DEVELOPING COUNTRIES DEVELOPMENT ECONOMICS DIFFERENTIAL TAXATION DISCOUNTED VALUE DISTORTION DISTORTIONS DOMESTIC CAPITAL DOMESTIC CONSUMPTION DOMESTIC CURRENCY DOMESTIC ECONOMY DOMESTIC INTEREST RATE DOMESTIC INTEREST RATES DOMESTIC PRICE DUTCH DISEASE ECONOMIC DEVELOPMENT ECONOMIC GROWTH ECONOMIC IMPLICATIONS ELASTICITY ELASTICITY OF SUBSTITUTION EMERGING ECONOMIES EMERGING MARKET EMERGING MARKET COUNTRIES EQUILIBRIA EQUILIBRIUM EQUILIBRIUM CONDITION EQUILIBRIUM CONDITIONS EXCHANGE RATE DEVALUATION EXPENDITURE EXPENDITURES EXPORT SUBSIDIES EXPORT SUBSIDY EXTERNALITIES EXTERNALITY FACTOR MARKETS FAIR TRADE FINANCIAL ASSETS FINANCIAL SUPPORT FISCAL POLICY FOREIGN DIRECT INVESTMENT FOREIGN INTEREST FOREIGN INTEREST RATES FOREIGN INVESTMENT FOREIGN RESERVE FOREIGN RESERVES FRAUD FREE TRADE GDP GENERAL EQUILIBRIUM GENERAL EQUILIBRIUM MODELS GLOBAL ECONOMY GOVERNMENT EXPENDITURE GOVERNMENT FINANCES GOVERNMENT INTERVENTION GOVERNMENT INVESTMENT GOVERNMENT POLICIES GOVERNMENT POLICY GOVERNMENT REVENUE GOVERNMENT SPENDING GROWTH MODELS GROWTH RATE GROWTH RATES HOLDING HOLDINGS HUMAN CAPITAL IMPORT IMPORT TARIFF IMPORT TARIFFS IMPORTS INCOME INCOME EFFECT INCREASING RETURNS INCREASING RETURNS TO SCALE INDIFFERENCE CURVES INFANT INDUSTRY ARGUMENT INFLATION INSTITUTIONAL CAPACITIES INSTITUTIONAL CAPACITY INSTRUMENT INSURANCE INTANGIBLE INTEREST INCOME INTEREST RATE INTEREST RATES INTERNATIONAL BANK INTERNATIONAL ECONOMICS INTERNATIONAL INTEREST INTERNATIONAL INTEREST RATE INTERNATIONAL PRICE INTERNATIONAL TRADE INVESTING INVESTMENT EXPENDITURES INVESTMENT OPPORTUNITIES INVESTMENT RATE LABOR MARKET LDCS LEVEL OF INVESTMENT LEVIES MACROECONOMICS MARGINAL PRODUCT MARGINAL PRODUCTIVITY MARKET CONDITION MARKET EQUILIBRIUM MARKET INTEREST RATE MARKET POWER MARKET PRICE MARKET PRICES MERCANTILISM MONEY HOLDINGS MULTILATERAL TRADE NATURAL RESOURCE NATURAL RESOURCES NEGATIVE EXTERNALITIES NET EXPORTS NOMINAL EXCHANGE RATE OPEN ECONOMY OPTIMAL ALLOCATION OPTIMIZATION ORGANIZATIONAL CAPITAL POLICY RESPONSES POLITICAL ECONOMY PREVAILING MARKET PRICES PRIVATE CAPITAL PRIVATE CAPITAL STOCK PRIVATE INVESTMENT PRIVATE INVESTMENTS PRODUCTION FUNCTION PRODUCTION FUNCTIONS PRODUCTIVE INVESTMENT PRODUCTIVITY PRODUCTIVITY GROWTH PROFIT MAXIMIZATION PUBLIC GOOD PUBLIC INVESTMENT PUBLIC ¯ SPENDING RATE OF RETURN RATES OF RETURN REAL COST REAL EXCHANGE RATE RELATIVE PRICE RELATIVE WEIGHTS RESERVE RESERVE ACCUMULATION RESERVES RETURN SAVINGS RATE SAVINGS RATES SEIGNIORAGE SLOW GROWTH SPECULATIVE CAPITAL INFLOWS STEADY STATE SUBSTITUTION EFFECT SUPPLY OF CREDIT TAX TAX CREDIT TAX POLICY TAX RATE TAX RATES TAXATION TOTAL OUTPUT TRADABLE GOOD TRADABLE GOODS TRADE AGREEMENTS TRADE DEFICIT TRADE POLICY UNDERVALUATION UTILITY FUNCTION WAGES WORLD ECONOMY WORLD INTEREST RATE WORLD MARKET WTO
spellingShingle	ABSOLUTE VALUE ACCUMULATION OF CAPITAL ADVERSE SHOCKS AGENCY PROBLEM AGENCY PROBLEMS AGGREGATE CAPITAL STOCK ALLOCATION OF CAPITAL AMOUNT OF CAPITAL BENCHMARK BUDGET CONSTRAINT CAPITAL ACCOUNT CAPITAL ACCOUNT OPENNESS CAPITAL ACCOUNT RESTRICTIONS CAPITAL ACCOUNTS CAPITAL ACCUMULATION CAPITAL ALLOCATION CAPITAL FLIGHT CAPITAL FLOWS CAPITAL FORMATION CAPITAL INCOME CAPITAL INFLOW CAPITAL INFLOWS CAPITAL INVESTMENT CAPITAL MARKET CAPITAL MARKETS CAPITAL OUTFLOW CAPITAL OWNERS CAPITAL SHARE CAPITAL SHARES CAPITAL STOCK CLOSED CAPITAL ACCOUNTS CLOSED ECONOMY COMPARATIVE ADVANTAGE CONSUMERS CONSUMPTION GROWTH COST OF INVESTMENT CRRA CURRENCY CURRENT ACCOUNT CURRENT ACCOUNT BALANCE CURRENT ACCOUNT DEFICITS CURRENT ACCOUNT SURPLUS DEPRECIATION DEPRECIATION RATE DEVALUATION DEVELOPING COUNTRIES DEVELOPMENT ECONOMICS DIFFERENTIAL TAXATION DISCOUNTED VALUE DISTORTION DISTORTIONS DOMESTIC CAPITAL DOMESTIC CONSUMPTION DOMESTIC CURRENCY DOMESTIC ECONOMY DOMESTIC INTEREST RATE DOMESTIC INTEREST RATES DOMESTIC PRICE DUTCH DISEASE ECONOMIC DEVELOPMENT ECONOMIC GROWTH ECONOMIC IMPLICATIONS ELASTICITY ELASTICITY OF SUBSTITUTION EMERGING ECONOMIES EMERGING MARKET EMERGING MARKET COUNTRIES EQUILIBRIA EQUILIBRIUM EQUILIBRIUM CONDITION EQUILIBRIUM CONDITIONS EXCHANGE RATE DEVALUATION EXPENDITURE EXPENDITURES EXPORT SUBSIDIES EXPORT SUBSIDY EXTERNALITIES EXTERNALITY FACTOR MARKETS FAIR TRADE FINANCIAL ASSETS FINANCIAL SUPPORT FISCAL POLICY FOREIGN DIRECT INVESTMENT FOREIGN INTEREST FOREIGN INTEREST RATES FOREIGN INVESTMENT FOREIGN RESERVE FOREIGN RESERVES FRAUD FREE TRADE GDP GENERAL EQUILIBRIUM GENERAL EQUILIBRIUM MODELS GLOBAL ECONOMY GOVERNMENT EXPENDITURE GOVERNMENT FINANCES GOVERNMENT INTERVENTION GOVERNMENT INVESTMENT GOVERNMENT POLICIES GOVERNMENT POLICY GOVERNMENT REVENUE GOVERNMENT SPENDING GROWTH MODELS GROWTH RATE GROWTH RATES HOLDING HOLDINGS HUMAN CAPITAL IMPORT IMPORT TARIFF IMPORT TARIFFS IMPORTS INCOME INCOME EFFECT INCREASING RETURNS INCREASING RETURNS TO SCALE INDIFFERENCE CURVES INFANT INDUSTRY ARGUMENT INFLATION INSTITUTIONAL CAPACITIES INSTITUTIONAL CAPACITY INSTRUMENT INSURANCE INTANGIBLE INTEREST INCOME INTEREST RATE INTEREST RATES INTERNATIONAL BANK INTERNATIONAL ECONOMICS INTERNATIONAL INTEREST INTERNATIONAL INTEREST RATE INTERNATIONAL PRICE INTERNATIONAL TRADE INVESTING INVESTMENT EXPENDITURES INVESTMENT OPPORTUNITIES INVESTMENT RATE LABOR MARKET LDCS LEVEL OF INVESTMENT LEVIES MACROECONOMICS MARGINAL PRODUCT MARGINAL PRODUCTIVITY MARKET CONDITION MARKET EQUILIBRIUM MARKET INTEREST RATE MARKET POWER MARKET PRICE MARKET PRICES MERCANTILISM MONEY HOLDINGS MULTILATERAL TRADE NATURAL RESOURCE NATURAL RESOURCES NEGATIVE EXTERNALITIES NET EXPORTS NOMINAL EXCHANGE RATE OPEN ECONOMY OPTIMAL ALLOCATION OPTIMIZATION ORGANIZATIONAL CAPITAL POLICY RESPONSES POLITICAL ECONOMY PREVAILING MARKET PRICES PRIVATE CAPITAL PRIVATE CAPITAL STOCK PRIVATE INVESTMENT PRIVATE INVESTMENTS PRODUCTION FUNCTION PRODUCTION FUNCTIONS PRODUCTIVE INVESTMENT PRODUCTIVITY PRODUCTIVITY GROWTH PROFIT MAXIMIZATION PUBLIC GOOD PUBLIC INVESTMENT PUBLIC ¯ SPENDING RATE OF RETURN RATES OF RETURN REAL COST REAL EXCHANGE RATE RELATIVE PRICE RELATIVE WEIGHTS RESERVE RESERVE ACCUMULATION RESERVES RETURN SAVINGS RATE SAVINGS RATES SEIGNIORAGE SLOW GROWTH SPECULATIVE CAPITAL INFLOWS STEADY STATE SUBSTITUTION EFFECT SUPPLY OF CREDIT TAX TAX CREDIT TAX POLICY TAX RATE TAX RATES TAXATION TOTAL OUTPUT TRADABLE GOOD TRADABLE GOODS TRADE AGREEMENTS TRADE DEFICIT TRADE POLICY UNDERVALUATION UTILITY FUNCTION WAGES WORLD ECONOMY WORLD INTEREST RATE WORLD MARKET WTO Korinek, Anton Servén, Luis Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
relation	Policy Research Working Paper ; No. 5250
description	This paper shows that real exchange rate undervaluation through the accumulation of foreign reserves may improve welfare in economies with learning-by-investing externalities that arise disproportionately from the tradable sector. In the presence of targeting problems or when policy choices are restricted by multilateral agreements, first-best policies such as subsidies to capital accumulation, or subsidies to tradable production are not feasible. A neo-mercantilist policy of foreign reserve accumulation "outsources" the targeting problem or overcomes the multilateral restrictions by providing loans to foreigners that can only be used to buy up domestic tradable goods. This raises the relative price of tradable versus non-tradable goods (i.e. undervalues the real exchange rate) at the static cost of temporarily reducing tradable absorption in the domestic economy. However, since the tradable sector generates greater learning-by-investing externalities, it leads to dynamic gains in the form of higher growth. The net welfare effects of reserve accumulation depend on the balance between the static losses from lower tradable absorption versus the dynamic gains from higher growth.
format	Publications & Research :: Policy Research Working Paper
author	Korinek, Anton Servén, Luis
author_facet	Korinek, Anton Servén, Luis
author_sort	Korinek, Anton
title	Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
title_short	Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
title_full	Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
title_fullStr	Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
title_full_unstemmed	Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains
title_sort	undervaluation through foreign reserve accumulation : static losses, dynamic gains
publisher	Washington, DC: World Bank
publishDate	2012
url	http://www-wds.worldbank.org/external/default/main?menuPK=64187510&pagePK=64193027&piPK=64187937&theSitePK=523679&menuPK=64187510&searchMenuPK=64187283&siteName=WDS&entityID=000158349_20100325103944 http://hdl.handle.net/10986/3737
_version_	1764388071831240704
spelling	okr-10986-37372021-04-23T14:02:12Z Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains Korinek, Anton Servén, Luis ABSOLUTE VALUE ACCUMULATION OF CAPITAL ADVERSE SHOCKS AGENCY PROBLEM AGENCY PROBLEMS AGGREGATE CAPITAL STOCK ALLOCATION OF CAPITAL AMOUNT OF CAPITAL BENCHMARK BUDGET CONSTRAINT CAPITAL ACCOUNT CAPITAL ACCOUNT OPENNESS CAPITAL ACCOUNT RESTRICTIONS CAPITAL ACCOUNTS CAPITAL ACCUMULATION CAPITAL ALLOCATION CAPITAL FLIGHT CAPITAL FLOWS CAPITAL FORMATION CAPITAL INCOME CAPITAL INFLOW CAPITAL INFLOWS CAPITAL INVESTMENT CAPITAL MARKET CAPITAL MARKETS CAPITAL OUTFLOW CAPITAL OWNERS CAPITAL SHARE CAPITAL SHARES CAPITAL STOCK CLOSED CAPITAL ACCOUNTS CLOSED ECONOMY COMPARATIVE ADVANTAGE CONSUMERS CONSUMPTION GROWTH COST OF INVESTMENT CRRA CURRENCY CURRENT ACCOUNT CURRENT ACCOUNT BALANCE CURRENT ACCOUNT DEFICITS CURRENT ACCOUNT SURPLUS DEPRECIATION DEPRECIATION RATE DEVALUATION DEVELOPING COUNTRIES DEVELOPMENT ECONOMICS DIFFERENTIAL TAXATION DISCOUNTED VALUE DISTORTION DISTORTIONS DOMESTIC CAPITAL DOMESTIC CONSUMPTION DOMESTIC CURRENCY DOMESTIC ECONOMY DOMESTIC INTEREST RATE DOMESTIC INTEREST RATES DOMESTIC PRICE DUTCH DISEASE ECONOMIC DEVELOPMENT ECONOMIC GROWTH ECONOMIC IMPLICATIONS ELASTICITY ELASTICITY OF SUBSTITUTION EMERGING ECONOMIES EMERGING MARKET EMERGING MARKET COUNTRIES EQUILIBRIA EQUILIBRIUM EQUILIBRIUM CONDITION EQUILIBRIUM CONDITIONS EXCHANGE RATE DEVALUATION EXPENDITURE EXPENDITURES EXPORT SUBSIDIES EXPORT SUBSIDY EXTERNALITIES EXTERNALITY FACTOR MARKETS FAIR TRADE FINANCIAL ASSETS FINANCIAL SUPPORT FISCAL POLICY FOREIGN DIRECT INVESTMENT FOREIGN INTEREST FOREIGN INTEREST RATES FOREIGN INVESTMENT FOREIGN RESERVE FOREIGN RESERVES FRAUD FREE TRADE GDP GENERAL EQUILIBRIUM GENERAL EQUILIBRIUM MODELS GLOBAL ECONOMY GOVERNMENT EXPENDITURE GOVERNMENT FINANCES GOVERNMENT INTERVENTION GOVERNMENT INVESTMENT GOVERNMENT POLICIES GOVERNMENT POLICY GOVERNMENT REVENUE GOVERNMENT SPENDING GROWTH MODELS GROWTH RATE GROWTH RATES HOLDING HOLDINGS HUMAN CAPITAL IMPORT IMPORT TARIFF IMPORT TARIFFS IMPORTS INCOME INCOME EFFECT INCREASING RETURNS INCREASING RETURNS TO SCALE INDIFFERENCE CURVES INFANT INDUSTRY ARGUMENT INFLATION INSTITUTIONAL CAPACITIES INSTITUTIONAL CAPACITY INSTRUMENT INSURANCE INTANGIBLE INTEREST INCOME INTEREST RATE INTEREST RATES INTERNATIONAL BANK INTERNATIONAL ECONOMICS INTERNATIONAL INTEREST INTERNATIONAL INTEREST RATE INTERNATIONAL PRICE INTERNATIONAL TRADE INVESTING INVESTMENT EXPENDITURES INVESTMENT OPPORTUNITIES INVESTMENT RATE LABOR MARKET LDCS LEVEL OF INVESTMENT LEVIES MACROECONOMICS MARGINAL PRODUCT MARGINAL PRODUCTIVITY MARKET CONDITION MARKET EQUILIBRIUM MARKET INTEREST RATE MARKET POWER MARKET PRICE MARKET PRICES MERCANTILISM MONEY HOLDINGS MULTILATERAL TRADE NATURAL RESOURCE NATURAL RESOURCES NEGATIVE EXTERNALITIES NET EXPORTS NOMINAL EXCHANGE RATE OPEN ECONOMY OPTIMAL ALLOCATION OPTIMIZATION ORGANIZATIONAL CAPITAL POLICY RESPONSES POLITICAL ECONOMY PREVAILING MARKET PRICES PRIVATE CAPITAL PRIVATE CAPITAL STOCK PRIVATE INVESTMENT PRIVATE INVESTMENTS PRODUCTION FUNCTION PRODUCTION FUNCTIONS PRODUCTIVE INVESTMENT PRODUCTIVITY PRODUCTIVITY GROWTH PROFIT MAXIMIZATION PUBLIC GOOD PUBLIC INVESTMENT PUBLIC ¯ SPENDING RATE OF RETURN RATES OF RETURN REAL COST REAL EXCHANGE RATE RELATIVE PRICE RELATIVE WEIGHTS RESERVE RESERVE ACCUMULATION RESERVES RETURN SAVINGS RATE SAVINGS RATES SEIGNIORAGE SLOW GROWTH SPECULATIVE CAPITAL INFLOWS STEADY STATE SUBSTITUTION EFFECT SUPPLY OF CREDIT TAX TAX CREDIT TAX POLICY TAX RATE TAX RATES TAXATION TOTAL OUTPUT TRADABLE GOOD TRADABLE GOODS TRADE AGREEMENTS TRADE DEFICIT TRADE POLICY UNDERVALUATION UTILITY FUNCTION WAGES WORLD ECONOMY WORLD INTEREST RATE WORLD MARKET WTO This paper shows that real exchange rate undervaluation through the accumulation of foreign reserves may improve welfare in economies with learning-by-investing externalities that arise disproportionately from the tradable sector. In the presence of targeting problems or when policy choices are restricted by multilateral agreements, first-best policies such as subsidies to capital accumulation, or subsidies to tradable production are not feasible. A neo-mercantilist policy of foreign reserve accumulation "outsources" the targeting problem or overcomes the multilateral restrictions by providing loans to foreigners that can only be used to buy up domestic tradable goods. This raises the relative price of tradable versus non-tradable goods (i.e. undervalues the real exchange rate) at the static cost of temporarily reducing tradable absorption in the domestic economy. However, since the tradable sector generates greater learning-by-investing externalities, it leads to dynamic gains in the form of higher growth. The net welfare effects of reserve accumulation depend on the balance between the static losses from lower tradable absorption versus the dynamic gains from higher growth. 2012-03-19T18:38:54Z 2012-03-19T18:38:54Z 2010-03-01 http://www-wds.worldbank.org/external/default/main?menuPK=64187510&pagePK=64193027&piPK=64187937&theSitePK=523679&menuPK=64187510&searchMenuPK=64187283&siteName=WDS&entityID=000158349_20100325103944 http://hdl.handle.net/10986/3737 English Policy Research Working Paper ; No. 5250 CC BY 3.0 IGO http://creativecommons.org/licenses/by/3.0/igo/ World Bank Washington, DC: World Bank Publications & Research :: Policy Research Working Paper

Undervaluation through Foreign Reserve Accumulation : Static Losses, Dynamic Gains

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