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Currency diversification and export competitiveness
Journal of Development
Economics
11 (1982) 287-306. North-Holland
CURRENCY DIVERSIFICATION
Publishing
Company
AND EXPORT COMPETITIVENESS
A Model of the ‘Dutc4 disease’ in Egypt* Jorge Braga de MACEDO Princeton U wiversity, Princeton, NJ 08.544, USA National Bureau of Economic Research, Cambridge, MA 02138, USA
Received September 1981, final version received February
1982
The paper presents a dynamic portfolio model under currency inconvertibility which rationalizes the recent Egyptian experience of real exchange rate appreciation and currency diversification following the increase in oil exports and the partial financial liberalization that took place after 1976. The two shocks are linked because the relative price of manufacturing exports in terms of oil is also the premium of the ‘gray’ market rate over the oflicial exchange rate. The effects of various official exchange rate policies on the temporary equilibrium values of the premium and the real wage and on the steady-state values of asset stocks are examined. A review of the Egyptian experience in light of the model results suggests that the unilication of 1979 was ineffective against this variant of the ‘Dutch disease’ but that the restoration in 1981 of a par&e! rate closer to the ‘gray’ market rate applicable to competitive exports may be more eflective.
1. Introduction The notion of an ‘economic disease’ is frequeiltly used in policy circles, and often labeled after a particular country. Nevertheless, it is only recently that the ‘Dutch disease” has become popular in open economy macroeconomics. There are now half a dozen models relating the loss of international competitiveness in manufactures to a boom in natural resource-based to the price of manufactured exports. As the price of oil rises relativ exports, the trade balance of the oil expo>*ter moves into surplus and this leads to a combination of nominal exchar ;e rate appreciation and reserve inflows. If the latter are not sterilized, there is domestic inflation and a decline in competitive exports. Real appreci.;tion has also been observed in the context of Southern Cone stabilization plans, entailing a financial liberalization and excessive capital inflows, as recently described in another *Earirer versions were presented at the World Bank, ihe State Department, the Wdliams Development Conference, and the NBER Summer Institute. Comments from the participants, especially Kernal Dervis and Paul Krugman, are gratefully acknowledged. None of” I he ;~bow arc of c0urr.e responsible for the views expressed in this paper. ‘See Corden (f982), Corden and Neary (1980), van Wijnbergen (1980). Routrl~s (;h;111 I I’hll, and Buiter and Purvis (1982). Corden (1980) credits The Economist with 111~ rrl\cn~i~r~ of rhe term and states that in Australia it is known as ‘the Gregory problem’.
0304-3878/82/OOW-OoO(i/$O2.75 0
1982 North-Holland
‘Xl?
J. Braga de Macedo, Currency diversification and expor; competitiveness
collection of models2 Actually, the 1979--1980 British experience can be seen as a case where ‘Dutch disease’ symptoms were exacerbated by Southern Cone-type excessive capital inflows. Instead, in the recent Egyptian experience, oil-induced real appreciation has been associated with capital outflows and an increase in foreign money balances held by domestic residents. After the October Working Paper cal:led for ‘the opening’ in early 1974, in effect, tight trade and exchange restrictions were substantially relaxed. 3 The various premiums and surcharges on khe offtcial exchange rate were consolidated and expanded through the creation of a ‘parallel market’, where foreign currency was exchanged at rates closer to the ones prevailing in the sizable ‘gray market’ tolerated by the authorities. Also ‘own’ imports, not requiring the purchase of foreign exchange, were greatly expanded and fcreign currency deposits by domestic residents were allowed at competitive mterest rates. Finally, current account transactions were gradually moved from the official to the parallel market. and petroleum Effective January 1, 1979, . raw cotton, rice, petroleum products ceased to be transacted at the old official rate of 39 piastres per dollar and the parallel rate of 70 piastres became the new official (unified) were again exchange rate.4 Then, on August 1, 1981, 40% of transactions shifted to a parallel rate of 84 piastres (the ‘gray rate’ being about 90). Natural-resource based exports and food and defensr imports were kept at the old lunitied’ rate. The Egyptian pound has remained inconvertibJe for current as w.:Jl as capital account transactions and the offtcial foreign exchange market has continued t’o be dominated by the monetary authorities. The existence of the ‘gray’ market has made it possible for the private sector to build up foreign currency balances via an unreported current account surplus made up of mrgrants’ remittances, tourism a:ld underinvoicing of exports. Thus, while ‘Dutch disease’ models genera!ly neglect portfolio considerations, and the same is true of most macro models for developing countries,5 the combination of real appreciation and an increase in the foreign money balances is the crucial feature of the recent Egyptian currency experience. The model developed in this paper is designed to show how increased currency diversification and decreased export competitiveness can follow an increase in the price of oiE and an increase ,in the return to foreign currency. Briefly, the Egyptian system ties the price, of a certain type of good matlufactured exports -- to the demand for an assrt - gray market foreign -1~ n;27 ,.,L IIQ~I~ ___ -.z,, YCT~ Wijn’bergen (1981a), Krugman (1980a), Dornbusch (1980. cl;. 12) and further references to the Argentine experience in Calve (198I). ‘On the economic experience since ‘the opening’, see Ikram et al. ( 1980). ‘As Pick’s Currency Yearbook (1978, p. 201) writes in characteristic style: ‘Unable to “beat” the L~ii marker. Cairo tinally decided to “‘join” it.’ ‘Taylor (1977, ch. 9). A portfolio model of the Por!t.guese black market rate is estimated in ‘@acedo t 19131):for the ‘dallarization’ of Mexico, see Ortiz and Solis (1982).
J. Braga
de Macedo,
Currency
dirlers$cation
and export
competitiveness
2x9
exchange. As a consequence, changes in relative returns have dkct effects on the allocation of resources between oil, manufactures and non-traded goods, while changes in the price of oil - or an official devaluation - directly affect the currency composition of financial wealth. In order to emphasize the short-run and long-run effects on real wages and on the currency diversification ratio of the increase in relative returns and in the price of oil, the model has a drastically simplified real side. In particular, it ignores a fundamental aspect of the industrialization of a relatively more absorptive oil exporter, namely the effect of the future exhaustion of oil reserves on capital accumulation.6 Despite this shortcoming, the analysis of the effects of official devaluation and partial financial liberalization on real wages and the currency diversification ratio is usefui in understanding monetary and exchange rate policy in Egypt. Furthermore, given the increasing reluctance of governments to embark on full interest rate liberalization, these lessons can be applied to other financially open relatively more absorptive oil exporters, such as Mexico. The paper is organized as follows, In section 2, a three-good two-asset dynamic model of portfolio diversification under inconvertibility is presented. The effects of an increase in the price of oil and in the return to foreign currency are examined, as well as the effects of various official exchange rate policies. Section 3 reviews the recent macroeconomic experience of Egypt, shows that the implications of the model are consistent with the stylized facts and suggests a better cure for the disease than conventional monetarism. Specifically, it is claimed that the implementation of an official crawling peg could enhance the effects of the recently decided channeling of manufactured exports at a rate closer tCs the gray market rate in restoring export competitiveness and increase the demand for Jssets denominated in domestic currency, even without increasing domestic interest rates beyond the lo’,;;, level decided in July 198 1.
2. A three-good, two-asset model of the ‘Dutch disease’ Consider an economy producing and consuming two composite traded goods and one non-traded good. To allow the aggregation of exports and imports into traded goods, assume th,at their foreign currency price is determined in the world market. Their domestic currency price is different, however, because there are two exchange rates, the official rate P and the good traded th;nl.rgh the official foreign ‘gray’ rate e. The composite I:xchange market includes a natural re~ource-b;r3Ld export (oil) while the composite good tradecl through the gray foreign exchange market includes ,nanufacturing exports. As long as there exists a sufficient flaiw of goods and ‘See Dixit (1981) and vat: Wijnbergen
( 198 1b).
290
J. Bruga de Macedo, Currency dioersijication
as4 export competitiveness
services going through the gray market, then, the gray market rate will be seen by exporters of ntanufactures as being applicable to their transactions, so that the premium e.)f the gray market rate over the official market rate becomes E measure oi’ the subsidy on manufacturing exports.7 Under full employment of the factors of production, supply of the three goods will respond to two relative prices, defined in terms of the oficial traded good:
If the demand for the three goods is a function of prices and financial wealth. then excess demaud for the three goods can be expressed as a function of p,q and financial wealth in terms of the numeraire.’ We assume that the market for the rton-traded good always clears, so that we can equate excel supply to zero:
‘!+I(;, ;, f&o,
(3)
where ii/= W/P” is real wealth. f’rivate fi sncJa1 wealth, in turn, is composed of two assets, domestic money, M, and foreign mone:f, F. Foreign money is valued at the gray market rate in private (non-bank) investors’ portfolios, while domestic money represents the foreign assets of the banking system (aggregated with the d-et? .i bank) G, valued at the official exchange rate, plus the stock of domestic assets of the banking system, C:
w-
M+eF,
(?
WC’ignore rzported capital flows and equate the reported current account, I? (excess supply of the oficial traded good) to the increase in the stock of foreign assets of the banking system. Similarly, we assume that the private (non-bank) stock of foreign money increases with an unreported current account surplus, B (excess supp.ly of the unofficial traded good). We then write. using dots for rates of change: -la. Dep.rather than a strict sepdratinn betweea the two goods, most goods are likely to be traded in booth m.arkets, depending on the premium of the black market rate over the official rare. Proceeds from underinvoicing of oficial exports and the acquisition of official imports over a pa.rtfc:rr!ar quantitative restriction are clear examples of the difliculty in distinguishing goods by the applicable exchange rate. See Macedo (1979, E%ay II) for the introduction of that aspect, wiiich is not essential to the story ,asld is therefore left out. “See a cirr5lar model in Kouri (l%2).
J. Bruga de Macedo,
Currency diversijkation
.and export comprtitivemw
291
(6)
P=&,;,I%).
(7)
According to (6) and (71, an increase in the premium improves the unreported current account and deteriorates the reported current account, so that the equivalent of the Marshall-Lerner condition holds. Similarly, an increase in the relative price of son-traded goods deteriorates both current accounts. Valuing the domestic money stock in terms of the numeraire, using hats for proportional rates of change, we can rewrite (6) as
,where G=M/P’ is the real money stock, and 6 _-c/M - 1”’ is the real increase in domestic credit creation. Now, given the level of financial wealth, the private (non-bank) sector chooses its currency composition based on expected relative returns, transactions and wealth. For convenience, asset demand functions are specified as homogeneous of degree one in wealth and transactions needs are inferred from nominal goods prices..It will be assumed thar an increase in the price of the unofficial traded good’ increases the demand for foreign money v,hile increases in the other two prices increase the demand for domestic money. Using the wealth definition in (4) to eliminate the demand for domestic money, expressing the demand for foreign assets in terms of t!>e numeraire, and setting P&= 1, we w$te portfolio balance as yF=h(
v, ;, ;)A&
(8’
where h =f/l -f f being the demand for foreign assets, r = R* + Y - R, R*(R) being the nominal return ori loreign money, and !P the expected proportional rate of change of the gray market rate, In what follows relative returns, I”, will be taken as exogenous - so that expectations are stationary - and the interest account on private foreign assets, R*F, will be subsumed into the unreported current account.g The model is now complete. Eqs. (3) and (8), which hold at all times, define the temporary equilibrium of the two relative prices, given asset stocks and relative returns. Given relative prices (and relative returns), eqs. (6’) and (7) determine tnt: stea.dy-stats value of asset stocks and therefore the long run currency di\~ersiGc:~tion ratio, h. ‘The importance of this assumption in models of dual exchange s:lte systems has been emphasized by Marion (1977). The effects of adaptive expectations or perfect foresight are explored in Macedo (1982).
‘92
J. Braga de Macedo, Currency diversijication and export competitiveness
We begin by describing temporary equilibrium in terms of fig. 1. The cc inbmation of p and q consistent with equilibrium in the non-traded goods market is given by an upward sloping locus, N?Y Differentiating (3), we express the slope of the NT Bocus as
dpldql,,=(v,/v, +~wtk’pl%
(3’)
where a=pF/@ is the share of foreign assets in wealth, CO=- @‘aN/8 r@ is the positive semi-elasticity of the excess supply of non-traded goods with respect to real wealth, vl(vz) is the positive semi-elasticity of the excess supply cf non-traded goods with respect to the premium (the- relative price of nontraded goods), e.g., v, = -g aN/Jp.
0
90 Fig. 1. Temporary equilibriun.
Note that in fig. 1 it is assum,ed that v2> Y1 -t cq
(or that the ‘own’ price arger than the sum of the ‘cross’ effect and the wealth affect) so that of the NT locus i; steeper than a ray through the origin defining rice of the unofticial traded good in terms of the non-traded good, p/q. r01n 18), on the other hand, an increase in q generates a decreased remand for foreign assets. Given asset supplies and relative returns, this will a decrease in p if the valuation effect of existing stocks is stronger than and effect. Then, the cotnbination of p and q consistent with portfolio ven by a downward sloping locus, drawn as PB in fig. 1 and
J. Braga de Macedo, Currency diversification and export cotnpetitiveness
293
whose slope is given by dp/dqlpB= -(M
--a-5Mq9
(8’)
where Ed is the positive elasticity of demand for foreign assets with respect to the premium (the relative price of non-trade goods), e.g., Ed= -(iif/f)/(aq/q). It is clear from (8’) that the condition for the PB locus to be downward sloping, 1 -a > cl, puts as an upper bound on the premium elasticity of the demand for foreign assets the share of domestic money in wealth. 1O The intersection of the two loci, To in fig. 1, defines temporary equilibrium. We now shock the system by an exogenous increase in Y and an exogenous increase in PO. The increase in r implies an increase in q to lower demand for foreign assets and/or an increase in p to make the existing stock willingly held, so that the PB locus shifts up by s3/1 -a---~~ times the increase in Y (where .s3 is the return elasticity of the demand for foreign assets). Since the NT locus does not shift, temporary equilibrium obtains at T,, and it is clear that p has increased by more than q. An increase in P” lowers p, q and @ in proportion. If v2 > v1 +ol this will generate an excess demand for the nontraded good, which tends to raise 4, so that the NT locus shifts to the rig1.t by v2- vi -ol/vl +am, times the proportional rate of increase in PO. Tl;e unit effect on the PB locus, in tgrn, Lsgiven by --Ed +~/l -a- E, so that the PB locns will shift down if E~:.s2 and temporary equilibrium will be at Tp3 with lower p, q and p/q. Since it is likely that ~~+.s3 l&I, if the two shocks are simultaneous and of similar magnitude, temporary equilibrium will be a: a point like T,, with larger q, smaller p/q and larger or smaller p depending on the size of the elasticity. Note that, as a consequence of a reported transfer from abroad, p/q would increase if v2>(ti1c2. The dynamics are governed by (6) and (7’) above. Substituting for p and 4, we can -express the accumulation of asse+ stocks in terms of their levels (and given relative returns). The model c4lapses into the simpler version where there are no non-traded goods prorided that the following stability conditions are met: d=v2(l-a-~2)+(ao,+vI)E2>0
(9
which is a statement about the relative slopes of the NT and PB loci, and 27r(v,(l -a)+aw,~2)+o>i31(~2(:~+ow)-p(1
-E--F.&
(IQ
where ~&CO) is the positive semi-elasticity of the current accounts with “If the PB locus wrre upward sloping, though, its slope should be less than the slope of the NT locus. See Macedo (1979, Eksay II).
3x
J. Braga de Macedo, Currency divetxijkation and ex?or+ competitiveness
~c’;~~:r! to !fic
premium (relative prke of non-traded goods, real wealth), e.g., p >&c”p = pdB/Zp, which is a sl.atemenL+ about the dominance of the ‘own’ 33-4 cF,~to, cia,ptured by IEand v2.
Assuming for convenience negiative own effects (e.g., zI3/8F ~0) and itive cross effects (e.g., @GF>O), the two loci where M =0 and P = 0. tively MM and FF, will be positively sloped in phase space. Stability res that the FF locus is steeper., as drawn in fig. 2. The arrows show that e the MM locus the reported current account has a deficit larger than read dsmestic credit creation and real money balance:; are decreasing, while tow they are increasing. Above the F,JT locus, the unreported current nt is in surplus and the private stocks of foreign assets is increasing, beIow it is decreasing, Steady-state equilibrium obtains at A,, with stocks F, and Mw Note from (8) that a ray through the origin, OR., has p;fi.
-
- .-
%
F
Fig. 2. St8ea+st ite equilibrium.
E the long-run effects P{ -m exogenous increase in the demand reign assets, from a position 01 equilibrium at A,. As stated above, asset supplies, p and q go up. T~v: reported current account moves into so the MM locus shifts tc the right, r;o MM and (if the ‘own’ effect unreported current account moves into surplus so the FF s to the right.. to F’F’. As shown in the appendix, at the new
J. Braga de Macedo, Currency diversification and export competitheness
295
steady-state (A,) there is a larger currency ratio. Next, the effect of an increase in P, from A, is to decrease p and q (as well as p/q). This brings the reported current account into surplus and the unreported current account into deficit, so that M has to increase (or F has to decrease) to restore balance. Thus the MM locus shifts up to M”M” and the F’F locus shifts to the left, to F”F”, such that at the new intersection, A,, F and h be unchanged. A combination of the two shocks such that MM is unchanged and FF shifts to PF”, would move steady-state to A,, where the currency ratio is higher than at &. Note that taking into account the reported transfer from abroad would increase the currency ratio further. Conversely, in this model, a crawling peg would decrease the steady-state currency ratio.’ r The short-run and long-run effects ot’ increases in r arld P” are summarized in table 1, together with the combination shown in figs. 1 and 2 by T, and A,. We now proceed to review the recent experience of Egypt. It will then become apparent that the observed responses to the increases in the price of oil and in the return differential were indeed increases in wages measured in terms of the price of manufacturing exports (q/p if labor productivity is set equal to one) and in the currency diversification ratio (h). Table 1 The ‘Dutch disease’ in Egypt: Model resulrs. __---Response Steady-state
Temporary
F
I;:’ A
11
-
+
-I-
-I-
-t
+
0
-
0
+
+
+
+
+
YIP 77
Shocks
P
4
Return differential (r)
+
-I-
-
Oil price (PO)
-
-
-
-4-
r and P”
combined
3. The Egyptian experience The opening of the Egyptian economy since the October Working Paper is unquestionable. l2 Exports and imports increased from 15% to 2176 of GNP in 1972-l 973 to 44% and 53% in the late 1970’s. In 1979, furthermore, the ‘ISee Macedo (1982). “Political economy views are in Taylor (1977) and Waterbury (1982). but there still is no systematic study of the trade and, payments regime such as the one by Hansen and Nashashihi (1975) for the Nasser period.
29h
J. Braga de Macedo,
Currency
diversijkation
and export competitiveness
increased oil revences, Suez Canal dues and reported migrants remittances reached 17n,: of GNP, accruing mostly to government rather than to the private sector. If reported capital flows are also interpreted as transfer payments, balancce of payments data shows a reported transfer from abroad partly offset by an unreported private capita1 outflow. Given that the propmsity to save in Egypt is probably less than in iis trading partners, the net income effect of the reported transfer also explains that real unit labor costs in manufacturing have been rising faster than abroad. It is, however, sufficient to see the recent Egyptian experience as the response of wages in terms of manufactured exports and the currency composition of financial wealth to the two shocks we have emphasized in the previous sectiorr: an inereasc in the price of the official traded good and an increase in the return lo foreign assets. Even though there has been some concern about the deciine in export cowpctitiveness and the increa,se in currency diversification thilt are at the cart of the Egyptian variant of the ‘Dutch disease’, these do not seem to bather the authorities as much as the acceleration of consumer price inflation from about IW; p.a. to perhaps 30% in 1980 (taking into account the free market price of some controlled commodities), first because attempting to ~tahilize the price of wage goods has involved an increasing share of govcrnmem expenditure. The policy measures of May 1980 addressed the dcclI : ii] real wages that came as a consequence of inflation both by an increase in labor compensation and by an increase in the subsidy of some ss:xntiai consumer goods. These measures have thus required government credit creation bcth to sterilize the deterioration in the foreign asset position of the Ceptrai Bank in 1977 and 1978 and not to sterilize the improvement in 1979 and 1980 It is therefore no wonder that most analyses of Egyptian monetary pr0Xems rely :’J conventional open economy monetarism, ~~,vhich, by assuming away relative gcod and asset price changes, is unable to capture the basic symptoms of the disease. To illustrate the conventional view, define m’ :tbtary equilibrium from the quantity equation and the Jurchasing power panty hypothesis. Then, using changes in an average official import exchange ra2.s against the dollar (taking into account the gradual shift of goods from the o%iaI to the parallel rate between 1975 a.ld 1978 to be described below) s U.S. consumer price inflation as a proxy for the world pound inflation, W+ the Egyptian Cl? 2s a proxy for dom’estic inflation, fig. 3 does pravide a t. *ar monetarist message for the period 1975--1978: money growth (including ~.VL’WIcurrency deposi?s) exceeded real output growth so domestic inflation s;js bound to catch up with world pound inflation. But the2 the official &.~h~ation !i5”;, in 19% and 305?, in 1979) implied monetary contraction at wor:d prices ( - SC;
.I. Braga de Macedo, Currency dioersijication and export c~~mpetitioenuss
297
!;
!i
/r i
i i i ,/
i
_‘I-----
0
/-
IO
0.
-w-,0”
1975
0--
I
I
1977
i
0 0 0
----_
:976
i
0
I
8
1978
0
1979
1980
FLg. 3. Convential measures of mone!ary disequilibrium (“/, p.a.) ---- ‘Excess supply, of money’ (W-j), --.- Domestic inflation (P), - World pound inflation (P*+@). Sotrrces: &’ from appendix table A.2. line 1; P’ from appendix table A.l, hne 3; P, P* from appendix table A.1, lin;e 6: 4’ from IFS, line 99b.p.
1980 as ‘equilibrium’ inflation dropped to the fixed exchange rate level of U.S. inflation. As a consequence, monetary contraction at domestic prices was exacerbated, while there was 12% excess money creation at world prices.13 A better measure of international competitiveness is provided by Iunit labor costs relative to major trading partners. For a semi-industrialized country such as Egypt, this measure should still be interpreted with caution since the comparison of unit labor costs with, say, the United States, has to be made “There are of course, other reasons to distrust the simple monetarist cure. Thus, according to McKenzie (1979) and Crockett and Evans (1.980), the income elasticity of money demand might be closer to two than to one. Alternatively, even for low interest rate elasticities, Krugman (1980b) has shown that (complete) price rigidity during two to four years would lead real appreciation to be magnified by a factor of similar magnitude.
3s;
J. Braga de Macedo, Grrency
divers&ation
and export competitiveness
CeJative to an arbitrary base period, and has to ignore the implications for labor productivity of the substantial sectwral reallocations that are likely to take place as a consequent of industrialization. Furthermore, the existence f multiple exchange rates has to ‘betaken into account. This is done in fig. 4
where unit labor costs in manufacturing relative to the U.S. are reported at ?th the average oRcia1 export el:change rate and the gray market rate (see apperdix table A.l). The gain in competitiveness achieved by the gradua: tsnification of 1977-1979 is evident from the chart, as well as the appreciation af the oflicial rate in 1980, but the striking feature is the deterioration in zompet%iveness of the goods vnlued at the gray market rate, whose relative costs in late 19x2 awrereMy0 above the base period level. The chart also shstvs relative i& unit labor cost?. The difference between these and unit labor costs is simply the change in either nominal exchange rate and a relative price index: the continued appreciation of the real gray market rate is evident from the widening distance between the two top curves in fig. 4.14 Now the share of foreign currrncy deposits in commercial banks rose from K’fdof total (public and private) &posits in 1976 to 19% at the end of 1978” and during the same period the premium If the gray market rate over an a~rage of&d export rate (which takes into account the gradual shift of roods from the official to the parallel market) declined from 55% to 31%. After the unification, however, the gray market rate began to follow the rising foreign interest rates and the premium on the unified (parallel) rate increased steadily until mid-1980. At that time, the decline in foreign interest rates as well as the announcement by .he government that customs dues on imported goods could again be paid for in local currency led to a drop in the pi-emium to a%ut 10% (fig. 5). But soon after, perhaps because of higher monitoring of t’\e gray market by the police, the premium returned to over 20’&,and it reached 27.5% in mid-1981. Indeed, dzdpite the restoration of a parallel rate of ‘G-84 piastres and the increase in -interest rates from 7.5% to I@/, ore August 1, the gray market rate continued to increase and actually reached over 100 piastres before October 6. The increasing return differential ~!so indzlced further currency diversification. Private holdings of forr.:igrE. currency are hard to measure because of widespread hoarding of foreign bank llotes, and substantial private foreign currency deposits in business and investment banks, and “60 fact. starring foreign variables, we have, by delinition: V&R ;o(@l 1s the wage rate in manufacluring, L(P) is m.anufacturing employment, Q(Q*) is ~~d~st~al production, PCP*) is the consumer price index, UK= wL/Q(ULC*) is unit labor cost in manufacturing, and z=e, e’ the exchange rates in :he gray and oficial markets respectively. The index in lig. 6 is therefare obtained by multiplying lines (9) and (5) in appendix table A.l. . ’ ~~~~c~~dingearmarked deposits. Including these would not make much difference in 1978, bur e share would increase to 2896 in 1979.
J. Braga de Macedo, Currency drversijkation
1975
1976
1977
and export competitiveness
1973
1979
299
1980
Fig. 4. Measures of export competitiveness (indices 1975 = 100) -. relative unit labor costs in manufacturing (rulcm) at gray market exchange rate, -- rulcm at average oflicial export exchange rate, - real rulcm. Source: Appe:tdi.r table A.1, rebased.
offshore ban&l6 Nevertheless, the currency ratio (private foreign currency deposits in commercial banks over domestic money supply) reached 15% at :he end of 1979 and has continued to increase since then (appendix table A.2).17 %ecisions regarding the currency denomination of financial wealth are not restricted to the di!Terential between Egyptian pound agd Eurodoll,ar rates. Changes in other Eurocurrency rates and in the expected exchange rates between major currencies will indeed be more important if the wealth-holder’s consumption basket includes only a small share of goods produced in Egypt. See Macedo (1979$ Essay I). “Monetary statistics in Egypt are notoriously defective. To begin with, thf,y exclude business and investment banks as well as offshore banks (which cnly deal in foreign currency), and eve,1 for commercial banks (which include four belonging in the Government’s foreign exchange budget and a number of joint venture banks) data on foreign currency deposits have only been available since: 222 exchange rate uni!ication. In terms of domestic currency assets and liabilities, the statiitrcs generally include public sector companies on the grriunds that they behave like private
J. Braga de Macedo, Cuwncy diversi$cationand export competitiveness
- 26
M 1
I
I
:
:
!
I
C-
I
\
i
I
- 22
i
\
\
\
\
\
\\ - 18 \ L \ - 14
- i0
b 1979
1980
6
1981
U:g 5. The premium and the return differential -- gray market premium :I; (right scare). ---- 90 day deposal rate diflerential with eurodollar : ‘, p.a. (left scale). Source: Appendix table A.2.
Behind this accumulation of foreign currency balances is a substantial change in the pattern of financing of a current account deficrt around $1.5 billion (appendix table A-3). There has been a rise in the ‘autonomo& component of the capital account (which includes direct investment, suppliers credits and other private non-monetary operations as well as long term aid) from about $1.3 billion in 1977 to about $2.5 billion in 1980, the increase in direct investment in 1979, accounted for by foreign oil companies and by Law 43 firms, being particularly noteworthy. This has more than matched the decline in special balance of payments financing loans and grants to the Government from $1.6 billion in 1977 to zero in 1979 and 1980, which was largely due to non-economic considerations. The balance on non-monetary transactions has therefore been in surplus and the net foreign asset position of the monetary institutions has accordingly improved. In 1980 central bank rese?-vesincreased almost $1 billion: while foreign assets held by commercial banks declined by one al&d of this amount. In fact, from 1974 to 1976 and as rirr in 1980 commercial banks were borrowing abroad while on net they were repaying loans and placing funds in extercal Gnancial markets between ~~~~~~a~~es(and may now have private :q.;Ity participation). However. it has been argued that rhar ~~p~sit~ should be excluded from the money supply in order to calcuiate a more ~~~~~~~~~~~~ public sector borrowing req.1 ement; this approach is followed in appendix table A 8, Se the discccsion in McKenzie (1979,
J. Braga de
Macedo, Currency diversification and export competitiveness
301
1977 and 1979. At the same time, there has been a growing ‘unallocated’ capital outflow: less than half of the commercial bank borrowing in 1977, it more than offset this item in 1980, so that, even after accounting for errors and omissions, due to current account transactions, a sizeable private (nonbank) accrmulation of foreign assets remains. Against this background, the stylized facts of the ‘Egyptian disease’ are apparent from fig. 5; on the left panel we plot the shocks - th? increase in pound oil revenues and the return differential, on the right panel we plot the responses - real appreciation and currency diversification. Aside from the deviation from purchasing power parity (already discussed in connection with figs. 3 and 4), fig. 6 suggests that defining money correctly will substantially reduce the rate growth of the money stock t:tdeed conventional monetary equilibrium would obtain in 1980 (rather than the 12% increase in excess money creation reported in fig. 3). The results from the model in the previous section provide a rationalization for the stylized facts in fig. 6 that are missed by the conventiona. explanation, even after the corrections suggested. Referring back to tab,le 1, we see that the return differential in favor of the foreign currency increases the currency ratio but causes real depreciation while the increase in the domestic currency price of the ofhcial traded good causes real appreciation but has no steady-state effect on the currency ratio. Noting that the percentage change in both is similar, we find the pattern suggested by the last row of table 1 explaining the responses of fig 6. It was shown above, furthermore, that a reported transfer from abroad would also increase the currency ratio, Therefore, while an official revaluation could temporarily oftset increases in PO*, a crawling peg - reflected in a decline in the real increase in domestic credit, 6 - would be necessary to prevent a continued increase in the currency ratio, while alloning manufactured exports at a rate closer to the gray market wcbnld seem to be the only way to preserve export competitiveness.
4. Conclusion The financial openness that Egypt has achieved makes it impossible for the government to control the stock of foreign assets of the p .iratc sector. The existence of a gray market premium naturally follows from the rL:luctance :o raise interest rates. The model presented in this paper suggesrs that the practice of allowing manufacturing exports at a rate closer to the gray market rate (followed between 1976 and 1979 and again in 1981) is a more effective remedy aganst the ‘Dutch diseaw’ than the 1979-1981 exchange rate unification. This conclusion takes as given that manufactures should be protected, and does not compare exchange rate protection to other methods, such as
XL?
3. Bral;,l Ie &face&, .Cm-rency diversification and export competitiwness
160’
a 140-
120-
80
1 1977
1976
1 1978
I :979
1980
5
2x
b 2Oc
15c
IOi3
5olfeG?/ i
’
1976
1977
1978
I
1979
191
Fr_e 6. The ‘Dutch disease’ in Egypt Stylized facts. (a) The shocks: - left scale: unit value of oil in (b) The wnds P (index 197F.c ZOO), ---- right scale: intcrc\t differential, R*-R(y/. responses: - left scale: LiLC/e (index 1978- IO@, --” right scale: pF/M(%).
J. Braga de Macedo, Currency diversJjicationand export competitiveness
303
export subsidies. It is simply based on the fact that in an oil exporting country with an inconvertible currency, foreign exchauge receipts are likely to be diverted from the official exchange market. As a consequence, ofticial exchange rate policy has to offset the extra incentives to consume foreign goods and hold foreign assets, in order to avoid full interest liberalization in the presence of rising world interest rates, and real appreciation in the presence of an oil price increase. Since s unified exchange rate and an offtcial once-and-for-all devaluation only redace the incentives to consume traded goods, a dual exchange rate regime coupled by a crawling peg are necessary to also reduce the incentive to hold foreign assets. Appendix
Using (3) to substitute for 4 in (6’), (7) and (8) and totally differentiating, taking into acccunt that aside from changes in r and 6 we have an exogenous devaluation of k%, the system can be written as
where I$ = 1 -E$.&,
The determinant is given by
The effect of an increase in r on the three remaining endogenous variables is
(L&$/i
= - 2a7a
J. Braga de Macedo, Currency diversification and export competitiveness
304
SQthat @=0 if 6 = 0. Also (d/~~)/$;li=27&I-(n -pf#@. similarly derived.
Tk other results are
Table A.1 Exchange rates and prices.” 1976
1978
1977
1979
1980
Gray market rate: (SIEE)
1.34
1.35
1.30
1.29
1.20
Average o&al S,!fE (a) Export (b) Import
2.01 2.21
1.89 2.10
1.72 I.85
1.43 1.43
1.43 1.43
rate:
Consumer price inflation: uop,a.
10
13
11
15
30
Wsge bill in manufacturing and mining IX million
485
555
620
770
975
Value of industrial production: fE million,
993
1120
1319
1478
1833
94
99
100
101
110
104
106
100
111
113
86
100
100
128
158
104
105
la?
114
117
87
95
Iti?
202
242
indices base 1978 = 100
Consumer prices relative to U.S. at gray market rate Labor share in manufacturing (5)/(6) Unit labor costs at the gray market rate Labor share in manufacturing rela?%e to U.S. -
Dollar Jnit value of or!
-
- -.
“Sources: (1) 1976-1978 inserwthwl Reports, Inc., average of weekly data. 1979-1980 own average of monthly data (Zj Using shares in dollar a*urrent account as weights. (3) 1976-1978 CAPIWAS, Uonthly Bulletin of Statistics, 1979-1980 own estimates. (9 Ministry of Pianning, adjusted for bonuses [9”,j, in 1979, 25% in 1980: (5) !976-1979: National Accounts Data from Ministry of Planning, 1979-1980 Ministry of Industry. (6) Index from (3) *index from I BI IFS. U.S. iine 64.18) t(7)/(6)) * U.S. inflation. (9) (7),‘bFS. U.S. Iii es (65 ey * 67..~)/(64 * 66.~). (10) Egypt General Petroleum Corporation. 1980 June.
estimates
J. B,%zgade Macedo, Currerrcy diversl$cation and export competitiveness
305
Table A.2 Domestic and foreign money (end of year). 1976
1977
1978
1979
1980
(1)
Money including foreign currency deposits (SE billion)
2.4
3.2
4.1
5.3
7.lb
(2)
Money excluding foreign currency deposits (EE billion)
2.2
2.9
3.7
4.6
5.9b
(3)
Premium of gray market over parallel rate index 1978 = I
0.97
0.96
1.oo
1.03
1.09
(4)
Currency ratio at parallel rate ( 1HMWX
9
10
11
15
20
(5)
Currency ratio at gray market rate (4) * (3)
3
10
11
15
22
Interest differential on 3 month time deposits
2
3
5
8
10
(t!l
_
“Sources: (1) Central Bank of Egypt. Includes earmarked deposits. (2) Central Bank of Egypt, 1976-1977 own estimates. Exclu Jes earmarked deposits. (3) End of year gray market raie same sources as table A.l, line 1. i6) 1976-1978 McKenzie (1979), 1979-1980 own estimates, Eurodollar rate from World Financial Markets. “Extrapolated from September data. Table A.3 Summary balance of payments (Smillion).”
(1)
Current Account
(2)
Autonomous transactions
1977
1978
1979
1981;
- 1519
- 1415
- 1572
- 1355
1270
1582
2269
2450
697
1095
non-monetary
(3)
‘Overall’ balance (I+ 2)
-251
167
(4)
Unallocated
-435
- 504
(5)
Special Financing
(6)
Monetary operations (a) Commercial banks (b) Central bank
-462
1601
809
72
-915 -1005 90
-472 - 494 22
-307 - 101 - 206
-415 - 630 280 -910
nS~~~~~t-: Central Bank of Egypt, 1980 own estimates.
References Boutros-Ghali, Y., 1980, Foreign exchange, black markets and currency substitution: Egypt, Draft (MIT, Cambridge, MA).
B
The case of
306
J. Braga de Macedo,
Currency
diversijkation
and export competitiwness
Boutros-Gha!., Y., 1981, Single export systems and the dependent et onomy model, Unpublished Ph.D. thesis (MIT. Cambridge, MA). Bruton. IL. 1981, Egypt’s development in the seventies, Drat, July (Williams College, Wiiliamstown, MA). Barter, W. and D. Purvis, 1982, Oil, disinflation and export competitiveness: A model of the *Dutch disease’ in: J. Bhandari and B. Putnam, eds., The international transmission of economic disturbances under flexible exchange rates (MIT Press, Cambridge, MA) forthcoming. t’alvo. ii.. 3981, Trying to stablize: Some theoretical reflectiors based on the case of Argentina, Draft. March (Universily oh Chicago, Chicago, IL). C~orden. M., 1980, Relationship between macroeconomtc and industrial policies, The World KC’ ..jmy 3. no. 2, Sept. C”orden. %.. 1982. Exchange rate protection, in: R. Cooper, P. Kenen, J. Macedo and J.v. Ypcrsele, eds.. The international monetary system undo: flexible exchange rates (Ballinger, Cambridge, *MA). C’orden, N. and P. Neary, 1980, Booming sector and de-industrialization in a small open cc-onomy. Draft.
(‘rockett, A. and 0. Evans, 1980, Demand ior mot ey in middle eastern countries, IMF Staff Papers. Sept. Diaz-A!eJandm, C._ !?81. Southern cone stabilization plans, in: W. Cline and S. Weintraub, eds., Economic stabilization in developing countries (The Brookings Institution, Washington, DC). Dtrii. A., 1981, A model of trade in oil and capital, Revised draft, Aug. (Princeton, NJ). Dornbusch, R.. 1980, Open economy macroeconomics (Basic Books? New York). Hcnsen. B. and K. Nashashibi, 1975, Foreign trade regimes and economic development: Egypt (Columbtn !iniversity Press. New York). Ikrdm. K. c! al.. 1980, Egypt: Economic managernent in a period of transition (Johns Hopkins University Press, Baltimore, MD). Kouri, P., 1982, Relative prices, speculation and exchange rate determination in the short and the long run, in: P. Kouri and J. Macedo, eds., Exchange rate determination and balance of paymenzs adjustment: Essays on the portfolio approach, forthcoming. Krugman, P.. 19ROa,The capital inflows problem in less developed countries, Draft, I’ob. (MIT, Camb+.Ige. XlA). K rugmau. P.. 198~0, .4nti-inflationary policy and the exchange rate, Draft, July (Warwick). Vaeedo. J . lY79. Portfolio diversification and currency inconvertibility, Ph.D. dissertation, Yale i’niver: ity (New University of Lisbon Press), forthcoming. Nacsdo, J.. 1981, The recent currency experience of Portugal; International Finance Section, I’rrccetrn University, Working paper in International Economics no. G-81-03, Oct. Macedo. J.. 1982, Currency inconvertibility, portfo!io balance and relative prices, in: P. Kouri and J. Macedo, cds., Exchange rate determination and balance of payments adjustment: Esiays on the Portfolio Approach, forthcoming. Marion, N.. 1977. Two-tier exchange rates Tnd the role of monetary policy, Unpublished Ph.D. thesis (Princeton Univers~ity, Princeton, NJ). ?vlcKenzie, G., 1979, The demand for money in Egypt, Draft, Oct. (IMF, Washington, DC). Ortiz. G. and L. Solis, 1982, Exchange rate risk and currency diversification: The case of Mexico. in: R. Cooper et al., The international monetary system under flexible exchange rates (Ballinger. Cambridge, MA). Taylor, L., !97*?.The politicsll economy of Egypt: An opening to what?, Draft (MIT, Cambridge, MA). Taylor, I-.. 198’). Macro models in deve!oping countries (McGra*v-Hill, New York). Van Wijnbergcn. 9.. 1980, Inflation, employment and the Dutch disease in oil exporting countrie<: .A disequilibrium analysis, Draft (World yank, Washington, DC). van Wijnberpr!. 5, i981a, Capita1 flows, crawling pegs and the real exchange rate ,A LDCs, Revised draft, April (World Bank, Washington, Dt?). :‘fn Wijnbergerc, S., 198tb, Optimal investment alloation and ex::hange rate management in oil exporting cown!ries: A normative analysis of the Dutch disease, Draft, July (World Bank, Wwhingtr.n, DC). ~~aterb~~, J., !982. The political economy of contemporary Egypt (Princeton University Press, Pr%cet~~n, NJ) for*‘hcclmisg.
Economics
11 (1982) 287-306. North-Holland
CURRENCY DIVERSIFICATION
Publishing
Company
AND EXPORT COMPETITIVENESS
A Model of the ‘Dutc4 disease’ in Egypt* Jorge Braga de MACEDO Princeton U wiversity, Princeton, NJ 08.544, USA National Bureau of Economic Research, Cambridge, MA 02138, USA
Received September 1981, final version received February
1982
The paper presents a dynamic portfolio model under currency inconvertibility which rationalizes the recent Egyptian experience of real exchange rate appreciation and currency diversification following the increase in oil exports and the partial financial liberalization that took place after 1976. The two shocks are linked because the relative price of manufacturing exports in terms of oil is also the premium of the ‘gray’ market rate over the oflicial exchange rate. The effects of various official exchange rate policies on the temporary equilibrium values of the premium and the real wage and on the steady-state values of asset stocks are examined. A review of the Egyptian experience in light of the model results suggests that the unilication of 1979 was ineffective against this variant of the ‘Dutch disease’ but that the restoration in 1981 of a par&e! rate closer to the ‘gray’ market rate applicable to competitive exports may be more eflective.
1. Introduction The notion of an ‘economic disease’ is frequeiltly used in policy circles, and often labeled after a particular country. Nevertheless, it is only recently that the ‘Dutch disease” has become popular in open economy macroeconomics. There are now half a dozen models relating the loss of international competitiveness in manufactures to a boom in natural resource-based to the price of manufactured exports. As the price of oil rises relativ exports, the trade balance of the oil expo>*ter moves into surplus and this leads to a combination of nominal exchar ;e rate appreciation and reserve inflows. If the latter are not sterilized, there is domestic inflation and a decline in competitive exports. Real appreci.;tion has also been observed in the context of Southern Cone stabilization plans, entailing a financial liberalization and excessive capital inflows, as recently described in another *Earirer versions were presented at the World Bank, ihe State Department, the Wdliams Development Conference, and the NBER Summer Institute. Comments from the participants, especially Kernal Dervis and Paul Krugman, are gratefully acknowledged. None of” I he ;~bow arc of c0urr.e responsible for the views expressed in this paper. ‘See Corden (f982), Corden and Neary (1980), van Wijnbergen (1980). Routrl~s (;h;111 I I’hll, and Buiter and Purvis (1982). Corden (1980) credits The Economist with 111~ rrl\cn~i~r~ of rhe term and states that in Australia it is known as ‘the Gregory problem’.
0304-3878/82/OOW-OoO(i/$O2.75 0
1982 North-Holland
‘Xl?
J. Braga de Macedo, Currency diversification and expor; competitiveness
collection of models2 Actually, the 1979--1980 British experience can be seen as a case where ‘Dutch disease’ symptoms were exacerbated by Southern Cone-type excessive capital inflows. Instead, in the recent Egyptian experience, oil-induced real appreciation has been associated with capital outflows and an increase in foreign money balances held by domestic residents. After the October Working Paper cal:led for ‘the opening’ in early 1974, in effect, tight trade and exchange restrictions were substantially relaxed. 3 The various premiums and surcharges on khe offtcial exchange rate were consolidated and expanded through the creation of a ‘parallel market’, where foreign currency was exchanged at rates closer to the ones prevailing in the sizable ‘gray market’ tolerated by the authorities. Also ‘own’ imports, not requiring the purchase of foreign exchange, were greatly expanded and fcreign currency deposits by domestic residents were allowed at competitive mterest rates. Finally, current account transactions were gradually moved from the official to the parallel market. and petroleum Effective January 1, 1979, . raw cotton, rice, petroleum products ceased to be transacted at the old official rate of 39 piastres per dollar and the parallel rate of 70 piastres became the new official (unified) were again exchange rate.4 Then, on August 1, 1981, 40% of transactions shifted to a parallel rate of 84 piastres (the ‘gray rate’ being about 90). Natural-resource based exports and food and defensr imports were kept at the old lunitied’ rate. The Egyptian pound has remained inconvertibJe for current as w.:Jl as capital account transactions and the offtcial foreign exchange market has continued t’o be dominated by the monetary authorities. The existence of the ‘gray’ market has made it possible for the private sector to build up foreign currency balances via an unreported current account surplus made up of mrgrants’ remittances, tourism a:ld underinvoicing of exports. Thus, while ‘Dutch disease’ models genera!ly neglect portfolio considerations, and the same is true of most macro models for developing countries,5 the combination of real appreciation and an increase in the foreign money balances is the crucial feature of the recent Egyptian currency experience. The model developed in this paper is designed to show how increased currency diversification and decreased export competitiveness can follow an increase in the price of oiE and an increase ,in the return to foreign currency. Briefly, the Egyptian system ties the price, of a certain type of good matlufactured exports -- to the demand for an assrt - gray market foreign -1~ n;27 ,.,L IIQ~I~ ___ -.z,, YCT~ Wijn’bergen (1981a), Krugman (1980a), Dornbusch (1980. cl;. 12) and further references to the Argentine experience in Calve (198I). ‘On the economic experience since ‘the opening’, see Ikram et al. ( 1980). ‘As Pick’s Currency Yearbook (1978, p. 201) writes in characteristic style: ‘Unable to “beat” the L~ii marker. Cairo tinally decided to “‘join” it.’ ‘Taylor (1977, ch. 9). A portfolio model of the Por!t.guese black market rate is estimated in ‘@acedo t 19131):for the ‘dallarization’ of Mexico, see Ortiz and Solis (1982).
J. Braga
de Macedo,
Currency
dirlers$cation
and export
competitiveness
2x9
exchange. As a consequence, changes in relative returns have dkct effects on the allocation of resources between oil, manufactures and non-traded goods, while changes in the price of oil - or an official devaluation - directly affect the currency composition of financial wealth. In order to emphasize the short-run and long-run effects on real wages and on the currency diversification ratio of the increase in relative returns and in the price of oil, the model has a drastically simplified real side. In particular, it ignores a fundamental aspect of the industrialization of a relatively more absorptive oil exporter, namely the effect of the future exhaustion of oil reserves on capital accumulation.6 Despite this shortcoming, the analysis of the effects of official devaluation and partial financial liberalization on real wages and the currency diversification ratio is usefui in understanding monetary and exchange rate policy in Egypt. Furthermore, given the increasing reluctance of governments to embark on full interest rate liberalization, these lessons can be applied to other financially open relatively more absorptive oil exporters, such as Mexico. The paper is organized as follows, In section 2, a three-good two-asset dynamic model of portfolio diversification under inconvertibility is presented. The effects of an increase in the price of oil and in the return to foreign currency are examined, as well as the effects of various official exchange rate policies. Section 3 reviews the recent macroeconomic experience of Egypt, shows that the implications of the model are consistent with the stylized facts and suggests a better cure for the disease than conventional monetarism. Specifically, it is claimed that the implementation of an official crawling peg could enhance the effects of the recently decided channeling of manufactured exports at a rate closer tCs the gray market rate in restoring export competitiveness and increase the demand for Jssets denominated in domestic currency, even without increasing domestic interest rates beyond the lo’,;;, level decided in July 198 1.
2. A three-good, two-asset model of the ‘Dutch disease’ Consider an economy producing and consuming two composite traded goods and one non-traded good. To allow the aggregation of exports and imports into traded goods, assume th,at their foreign currency price is determined in the world market. Their domestic currency price is different, however, because there are two exchange rates, the official rate P and the good traded th;nl.rgh the official foreign ‘gray’ rate e. The composite I:xchange market includes a natural re~ource-b;r3Ld export (oil) while the composite good tradecl through the gray foreign exchange market includes ,nanufacturing exports. As long as there exists a sufficient flaiw of goods and ‘See Dixit (1981) and vat: Wijnbergen
( 198 1b).
290
J. Bruga de Macedo, Currency dioersijication
as4 export competitiveness
services going through the gray market, then, the gray market rate will be seen by exporters of ntanufactures as being applicable to their transactions, so that the premium e.)f the gray market rate over the official market rate becomes E measure oi’ the subsidy on manufacturing exports.7 Under full employment of the factors of production, supply of the three goods will respond to two relative prices, defined in terms of the oficial traded good:
If the demand for the three goods is a function of prices and financial wealth. then excess demaud for the three goods can be expressed as a function of p,q and financial wealth in terms of the numeraire.’ We assume that the market for the rton-traded good always clears, so that we can equate excel supply to zero:
‘!+I(;, ;, f&o,
(3)
where ii/= W/P” is real wealth. f’rivate fi sncJa1 wealth, in turn, is composed of two assets, domestic money, M, and foreign mone:f, F. Foreign money is valued at the gray market rate in private (non-bank) investors’ portfolios, while domestic money represents the foreign assets of the banking system (aggregated with the d-et? .i bank) G, valued at the official exchange rate, plus the stock of domestic assets of the banking system, C:
w-
M+eF,
(?
WC’ignore rzported capital flows and equate the reported current account, I? (excess supply of the oficial traded good) to the increase in the stock of foreign assets of the banking system. Similarly, we assume that the private (non-bank) stock of foreign money increases with an unreported current account surplus, B (excess supp.ly of the unofficial traded good). We then write. using dots for rates of change: -la. Dep.rather than a strict sepdratinn betweea the two goods, most goods are likely to be traded in booth m.arkets, depending on the premium of the black market rate over the official rare. Proceeds from underinvoicing of oficial exports and the acquisition of official imports over a pa.rtfc:rr!ar quantitative restriction are clear examples of the difliculty in distinguishing goods by the applicable exchange rate. See Macedo (1979, E%ay II) for the introduction of that aspect, wiiich is not essential to the story ,asld is therefore left out. “See a cirr5lar model in Kouri (l%2).
J. Bruga de Macedo,
Currency diversijkation
.and export comprtitivemw
291
(6)
P=&,;,I%).
(7)
According to (6) and (71, an increase in the premium improves the unreported current account and deteriorates the reported current account, so that the equivalent of the Marshall-Lerner condition holds. Similarly, an increase in the relative price of son-traded goods deteriorates both current accounts. Valuing the domestic money stock in terms of the numeraire, using hats for proportional rates of change, we can rewrite (6) as
,where G=M/P’ is the real money stock, and 6 _-c/M - 1”’ is the real increase in domestic credit creation. Now, given the level of financial wealth, the private (non-bank) sector chooses its currency composition based on expected relative returns, transactions and wealth. For convenience, asset demand functions are specified as homogeneous of degree one in wealth and transactions needs are inferred from nominal goods prices..It will be assumed thar an increase in the price of the unofficial traded good’ increases the demand for foreign money v,hile increases in the other two prices increase the demand for domestic money. Using the wealth definition in (4) to eliminate the demand for domestic money, expressing the demand for foreign assets in terms of t!>e numeraire, and setting P&= 1, we w$te portfolio balance as yF=h(
v, ;, ;)A&
(8’
where h =f/l -f f being the demand for foreign assets, r = R* + Y - R, R*(R) being the nominal return ori loreign money, and !P the expected proportional rate of change of the gray market rate, In what follows relative returns, I”, will be taken as exogenous - so that expectations are stationary - and the interest account on private foreign assets, R*F, will be subsumed into the unreported current account.g The model is now complete. Eqs. (3) and (8), which hold at all times, define the temporary equilibrium of the two relative prices, given asset stocks and relative returns. Given relative prices (and relative returns), eqs. (6’) and (7) determine tnt: stea.dy-stats value of asset stocks and therefore the long run currency di\~ersiGc:~tion ratio, h. ‘The importance of this assumption in models of dual exchange s:lte systems has been emphasized by Marion (1977). The effects of adaptive expectations or perfect foresight are explored in Macedo (1982).
‘92
J. Braga de Macedo, Currency diversijication and export competitiveness
We begin by describing temporary equilibrium in terms of fig. 1. The cc inbmation of p and q consistent with equilibrium in the non-traded goods market is given by an upward sloping locus, N?Y Differentiating (3), we express the slope of the NT Bocus as
dpldql,,=(v,/v, +~wtk’pl%
(3’)
where a=pF/@ is the share of foreign assets in wealth, CO=- @‘aN/8 r@ is the positive semi-elasticity of the excess supply of non-traded goods with respect to real wealth, vl(vz) is the positive semi-elasticity of the excess supply cf non-traded goods with respect to the premium (the- relative price of nontraded goods), e.g., v, = -g aN/Jp.
0
90 Fig. 1. Temporary equilibriun.
Note that in fig. 1 it is assum,ed that v2> Y1 -t cq
(or that the ‘own’ price arger than the sum of the ‘cross’ effect and the wealth affect) so that of the NT locus i; steeper than a ray through the origin defining rice of the unofticial traded good in terms of the non-traded good, p/q. r01n 18), on the other hand, an increase in q generates a decreased remand for foreign assets. Given asset supplies and relative returns, this will a decrease in p if the valuation effect of existing stocks is stronger than and effect. Then, the cotnbination of p and q consistent with portfolio ven by a downward sloping locus, drawn as PB in fig. 1 and
J. Braga de Macedo, Currency diversification and export cotnpetitiveness
293
whose slope is given by dp/dqlpB= -(M
--a-5Mq9
(8’)
where Ed is the positive elasticity of demand for foreign assets with respect to the premium (the relative price of non-trade goods), e.g., Ed= -(iif/f)/(aq/q). It is clear from (8’) that the condition for the PB locus to be downward sloping, 1 -a > cl, puts as an upper bound on the premium elasticity of the demand for foreign assets the share of domestic money in wealth. 1O The intersection of the two loci, To in fig. 1, defines temporary equilibrium. We now shock the system by an exogenous increase in Y and an exogenous increase in PO. The increase in r implies an increase in q to lower demand for foreign assets and/or an increase in p to make the existing stock willingly held, so that the PB locus shifts up by s3/1 -a---~~ times the increase in Y (where .s3 is the return elasticity of the demand for foreign assets). Since the NT locus does not shift, temporary equilibrium obtains at T,, and it is clear that p has increased by more than q. An increase in P” lowers p, q and @ in proportion. If v2 > v1 +ol this will generate an excess demand for the nontraded good, which tends to raise 4, so that the NT locus shifts to the rig1.t by v2- vi -ol/vl +am, times the proportional rate of increase in PO. Tl;e unit effect on the PB locus, in tgrn, Lsgiven by --Ed +~/l -a- E, so that the PB locns will shift down if E~:.s2 and temporary equilibrium will be at Tp3 with lower p, q and p/q. Since it is likely that ~~+.s3 l&I, if the two shocks are simultaneous and of similar magnitude, temporary equilibrium will be a: a point like T,, with larger q, smaller p/q and larger or smaller p depending on the size of the elasticity. Note that, as a consequence of a reported transfer from abroad, p/q would increase if v2>(ti1c2. The dynamics are governed by (6) and (7’) above. Substituting for p and 4, we can -express the accumulation of asse+ stocks in terms of their levels (and given relative returns). The model c4lapses into the simpler version where there are no non-traded goods prorided that the following stability conditions are met: d=v2(l-a-~2)+(ao,+vI)E2>0
(9
which is a statement about the relative slopes of the NT and PB loci, and 27r(v,(l -a)+aw,~2)+o>i31(~2(:~+ow)-p(1
-E--F.&
(IQ
where ~&CO) is the positive semi-elasticity of the current accounts with “If the PB locus wrre upward sloping, though, its slope should be less than the slope of the NT locus. See Macedo (1979, Eksay II).
3x
J. Braga de Macedo, Currency divetxijkation and ex?or+ competitiveness
~c’;~~:r! to !fic
premium (relative prke of non-traded goods, real wealth), e.g., p >&c”p = pdB/Zp, which is a sl.atemenL+ about the dominance of the ‘own’ 33-4 cF,~to, cia,ptured by IEand v2.
Assuming for convenience negiative own effects (e.g., zI3/8F ~0) and itive cross effects (e.g., @GF>O), the two loci where M =0 and P = 0. tively MM and FF, will be positively sloped in phase space. Stability res that the FF locus is steeper., as drawn in fig. 2. The arrows show that e the MM locus the reported current account has a deficit larger than read dsmestic credit creation and real money balance:; are decreasing, while tow they are increasing. Above the F,JT locus, the unreported current nt is in surplus and the private stocks of foreign assets is increasing, beIow it is decreasing, Steady-state equilibrium obtains at A,, with stocks F, and Mw Note from (8) that a ray through the origin, OR., has p;fi.
-
- .-
%
F
Fig. 2. St8ea+st ite equilibrium.
E the long-run effects P{ -m exogenous increase in the demand reign assets, from a position 01 equilibrium at A,. As stated above, asset supplies, p and q go up. T~v: reported current account moves into so the MM locus shifts tc the right, r;o MM and (if the ‘own’ effect unreported current account moves into surplus so the FF s to the right.. to F’F’. As shown in the appendix, at the new
J. Braga de Macedo, Currency diversification and export competitheness
295
steady-state (A,) there is a larger currency ratio. Next, the effect of an increase in P, from A, is to decrease p and q (as well as p/q). This brings the reported current account into surplus and the unreported current account into deficit, so that M has to increase (or F has to decrease) to restore balance. Thus the MM locus shifts up to M”M” and the F’F locus shifts to the left, to F”F”, such that at the new intersection, A,, F and h be unchanged. A combination of the two shocks such that MM is unchanged and FF shifts to PF”, would move steady-state to A,, where the currency ratio is higher than at &. Note that taking into account the reported transfer from abroad would increase the currency ratio further. Conversely, in this model, a crawling peg would decrease the steady-state currency ratio.’ r The short-run and long-run effects ot’ increases in r arld P” are summarized in table 1, together with the combination shown in figs. 1 and 2 by T, and A,. We now proceed to review the recent experience of Egypt. It will then become apparent that the observed responses to the increases in the price of oil and in the return differential were indeed increases in wages measured in terms of the price of manufacturing exports (q/p if labor productivity is set equal to one) and in the currency diversification ratio (h). Table 1 The ‘Dutch disease’ in Egypt: Model resulrs. __---Response Steady-state
Temporary
F
I;:’ A
11
-
+
-I-
-I-
-t
+
0
-
0
+
+
+
+
+
YIP 77
Shocks
P
4
Return differential (r)
+
-I-
-
Oil price (PO)
-
-
-
-4-
r and P”
combined
3. The Egyptian experience The opening of the Egyptian economy since the October Working Paper is unquestionable. l2 Exports and imports increased from 15% to 2176 of GNP in 1972-l 973 to 44% and 53% in the late 1970’s. In 1979, furthermore, the ‘ISee Macedo (1982). “Political economy views are in Taylor (1977) and Waterbury (1982). but there still is no systematic study of the trade and, payments regime such as the one by Hansen and Nashashihi (1975) for the Nasser period.
29h
J. Braga de Macedo,
Currency
diversijkation
and export competitiveness
increased oil revences, Suez Canal dues and reported migrants remittances reached 17n,: of GNP, accruing mostly to government rather than to the private sector. If reported capital flows are also interpreted as transfer payments, balancce of payments data shows a reported transfer from abroad partly offset by an unreported private capita1 outflow. Given that the propmsity to save in Egypt is probably less than in iis trading partners, the net income effect of the reported transfer also explains that real unit labor costs in manufacturing have been rising faster than abroad. It is, however, sufficient to see the recent Egyptian experience as the response of wages in terms of manufactured exports and the currency composition of financial wealth to the two shocks we have emphasized in the previous sectiorr: an inereasc in the price of the official traded good and an increase in the return lo foreign assets. Even though there has been some concern about the deciine in export cowpctitiveness and the increa,se in currency diversification thilt are at the cart of the Egyptian variant of the ‘Dutch disease’, these do not seem to bather the authorities as much as the acceleration of consumer price inflation from about IW; p.a. to perhaps 30% in 1980 (taking into account the free market price of some controlled commodities), first because attempting to ~tahilize the price of wage goods has involved an increasing share of govcrnmem expenditure. The policy measures of May 1980 addressed the dcclI : ii] real wages that came as a consequence of inflation both by an increase in labor compensation and by an increase in the subsidy of some ss:xntiai consumer goods. These measures have thus required government credit creation bcth to sterilize the deterioration in the foreign asset position of the Ceptrai Bank in 1977 and 1978 and not to sterilize the improvement in 1979 and 1980 It is therefore no wonder that most analyses of Egyptian monetary pr0Xems rely :’J conventional open economy monetarism, ~~,vhich, by assuming away relative gcod and asset price changes, is unable to capture the basic symptoms of the disease. To illustrate the conventional view, define m’ :tbtary equilibrium from the quantity equation and the Jurchasing power panty hypothesis. Then, using changes in an average official import exchange ra2.s against the dollar (taking into account the gradual shift of goods from the o%iaI to the parallel rate between 1975 a.ld 1978 to be described below) s U.S. consumer price inflation as a proxy for the world pound inflation, W+ the Egyptian Cl? 2s a proxy for dom’estic inflation, fig. 3 does pravide a t. *ar monetarist message for the period 1975--1978: money growth (including ~.VL’WIcurrency deposi?s) exceeded real output growth so domestic inflation s;js bound to catch up with world pound inflation. But the2 the official &.~h~ation !i5”;, in 19% and 305?, in 1979) implied monetary contraction at wor:d prices ( - SC;
.I. Braga de Macedo, Currency dioersijication and export c~~mpetitioenuss
297
!;
!i
/r i
i i i ,/
i
_‘I-----
0
/-
IO
0.
-w-,0”
1975
0--
I
I
1977
i
0 0 0
----_
:976
i
0
I
8
1978
0
1979
1980
FLg. 3. Convential measures of mone!ary disequilibrium (“/, p.a.) ---- ‘Excess supply, of money’ (W-j), --.- Domestic inflation (P), - World pound inflation (P*+@). Sotrrces: &’ from appendix table A.2. line 1; P’ from appendix table A.l, hne 3; P, P* from appendix table A.1, lin;e 6: 4’ from IFS, line 99b.p.
1980 as ‘equilibrium’ inflation dropped to the fixed exchange rate level of U.S. inflation. As a consequence, monetary contraction at domestic prices was exacerbated, while there was 12% excess money creation at world prices.13 A better measure of international competitiveness is provided by Iunit labor costs relative to major trading partners. For a semi-industrialized country such as Egypt, this measure should still be interpreted with caution since the comparison of unit labor costs with, say, the United States, has to be made “There are of course, other reasons to distrust the simple monetarist cure. Thus, according to McKenzie (1979) and Crockett and Evans (1.980), the income elasticity of money demand might be closer to two than to one. Alternatively, even for low interest rate elasticities, Krugman (1980b) has shown that (complete) price rigidity during two to four years would lead real appreciation to be magnified by a factor of similar magnitude.
3s;
J. Braga de Macedo, Grrency
divers&ation
and export competitiveness
CeJative to an arbitrary base period, and has to ignore the implications for labor productivity of the substantial sectwral reallocations that are likely to take place as a consequent of industrialization. Furthermore, the existence f multiple exchange rates has to ‘betaken into account. This is done in fig. 4
where unit labor costs in manufacturing relative to the U.S. are reported at ?th the average oRcia1 export el:change rate and the gray market rate (see apperdix table A.l). The gain in competitiveness achieved by the gradua: tsnification of 1977-1979 is evident from the chart, as well as the appreciation af the oflicial rate in 1980, but the striking feature is the deterioration in zompet%iveness of the goods vnlued at the gray market rate, whose relative costs in late 19x2 awrereMy0 above the base period level. The chart also shstvs relative i& unit labor cost?. The difference between these and unit labor costs is simply the change in either nominal exchange rate and a relative price index: the continued appreciation of the real gray market rate is evident from the widening distance between the two top curves in fig. 4.14 Now the share of foreign currrncy deposits in commercial banks rose from K’fdof total (public and private) &posits in 1976 to 19% at the end of 1978” and during the same period the premium If the gray market rate over an a~rage of&d export rate (which takes into account the gradual shift of roods from the official to the parallel market) declined from 55% to 31%. After the unification, however, the gray market rate began to follow the rising foreign interest rates and the premium on the unified (parallel) rate increased steadily until mid-1980. At that time, the decline in foreign interest rates as well as the announcement by .he government that customs dues on imported goods could again be paid for in local currency led to a drop in the pi-emium to a%ut 10% (fig. 5). But soon after, perhaps because of higher monitoring of t’\e gray market by the police, the premium returned to over 20’&,and it reached 27.5% in mid-1981. Indeed, dzdpite the restoration of a parallel rate of ‘G-84 piastres and the increase in -interest rates from 7.5% to I@/, ore August 1, the gray market rate continued to increase and actually reached over 100 piastres before October 6. The increasing return differential ~!so indzlced further currency diversification. Private holdings of forr.:igrE. currency are hard to measure because of widespread hoarding of foreign bank llotes, and substantial private foreign currency deposits in business and investment banks, and “60 fact. starring foreign variables, we have, by delinition: V&R ;o(@l 1s the wage rate in manufacluring, L(P) is m.anufacturing employment, Q(Q*) is ~~d~st~al production, PCP*) is the consumer price index, UK= wL/Q(ULC*) is unit labor cost in manufacturing, and z=e, e’ the exchange rates in :he gray and oficial markets respectively. The index in lig. 6 is therefare obtained by multiplying lines (9) and (5) in appendix table A.l. . ’ ~~~~c~~dingearmarked deposits. Including these would not make much difference in 1978, bur e share would increase to 2896 in 1979.
J. Braga de Macedo, Currency drversijkation
1975
1976
1977
and export competitiveness
1973
1979
299
1980
Fig. 4. Measures of export competitiveness (indices 1975 = 100) -. relative unit labor costs in manufacturing (rulcm) at gray market exchange rate, -- rulcm at average oflicial export exchange rate, - real rulcm. Source: Appe:tdi.r table A.1, rebased.
offshore ban&l6 Nevertheless, the currency ratio (private foreign currency deposits in commercial banks over domestic money supply) reached 15% at :he end of 1979 and has continued to increase since then (appendix table A.2).17 %ecisions regarding the currency denomination of financial wealth are not restricted to the di!Terential between Egyptian pound agd Eurodoll,ar rates. Changes in other Eurocurrency rates and in the expected exchange rates between major currencies will indeed be more important if the wealth-holder’s consumption basket includes only a small share of goods produced in Egypt. See Macedo (1979$ Essay I). “Monetary statistics in Egypt are notoriously defective. To begin with, thf,y exclude business and investment banks as well as offshore banks (which cnly deal in foreign currency), and eve,1 for commercial banks (which include four belonging in the Government’s foreign exchange budget and a number of joint venture banks) data on foreign currency deposits have only been available since: 222 exchange rate uni!ication. In terms of domestic currency assets and liabilities, the statiitrcs generally include public sector companies on the grriunds that they behave like private
J. Braga de Macedo, Cuwncy diversi$cationand export competitiveness
- 26
M 1
I
I
:
:
!
I
C-
I
\
i
I
- 22
i
\
\
\
\
\
\\ - 18 \ L \ - 14
- i0
b 1979
1980
6
1981
U:g 5. The premium and the return differential -- gray market premium :I; (right scare). ---- 90 day deposal rate diflerential with eurodollar : ‘, p.a. (left scale). Source: Appendix table A.2.
Behind this accumulation of foreign currency balances is a substantial change in the pattern of financing of a current account deficrt around $1.5 billion (appendix table A-3). There has been a rise in the ‘autonomo& component of the capital account (which includes direct investment, suppliers credits and other private non-monetary operations as well as long term aid) from about $1.3 billion in 1977 to about $2.5 billion in 1980, the increase in direct investment in 1979, accounted for by foreign oil companies and by Law 43 firms, being particularly noteworthy. This has more than matched the decline in special balance of payments financing loans and grants to the Government from $1.6 billion in 1977 to zero in 1979 and 1980, which was largely due to non-economic considerations. The balance on non-monetary transactions has therefore been in surplus and the net foreign asset position of the monetary institutions has accordingly improved. In 1980 central bank rese?-vesincreased almost $1 billion: while foreign assets held by commercial banks declined by one al&d of this amount. In fact, from 1974 to 1976 and as rirr in 1980 commercial banks were borrowing abroad while on net they were repaying loans and placing funds in extercal Gnancial markets between ~~~~~~a~~es(and may now have private :q.;Ity participation). However. it has been argued that rhar ~~p~sit~ should be excluded from the money supply in order to calcuiate a more ~~~~~~~~~~~~ public sector borrowing req.1 ement; this approach is followed in appendix table A 8, Se the discccsion in McKenzie (1979,
J. Braga de
Macedo, Currency diversification and export competitiveness
301
1977 and 1979. At the same time, there has been a growing ‘unallocated’ capital outflow: less than half of the commercial bank borrowing in 1977, it more than offset this item in 1980, so that, even after accounting for errors and omissions, due to current account transactions, a sizeable private (nonbank) accrmulation of foreign assets remains. Against this background, the stylized facts of the ‘Egyptian disease’ are apparent from fig. 5; on the left panel we plot the shocks - th? increase in pound oil revenues and the return differential, on the right panel we plot the responses - real appreciation and currency diversification. Aside from the deviation from purchasing power parity (already discussed in connection with figs. 3 and 4), fig. 6 suggests that defining money correctly will substantially reduce the rate growth of the money stock t:tdeed conventional monetary equilibrium would obtain in 1980 (rather than the 12% increase in excess money creation reported in fig. 3). The results from the model in the previous section provide a rationalization for the stylized facts in fig. 6 that are missed by the conventiona. explanation, even after the corrections suggested. Referring back to tab,le 1, we see that the return differential in favor of the foreign currency increases the currency ratio but causes real depreciation while the increase in the domestic currency price of the ofhcial traded good causes real appreciation but has no steady-state effect on the currency ratio. Noting that the percentage change in both is similar, we find the pattern suggested by the last row of table 1 explaining the responses of fig 6. It was shown above, furthermore, that a reported transfer from abroad would also increase the currency ratio, Therefore, while an official revaluation could temporarily oftset increases in PO*, a crawling peg - reflected in a decline in the real increase in domestic credit, 6 - would be necessary to prevent a continued increase in the currency ratio, while alloning manufactured exports at a rate closer to the gray market wcbnld seem to be the only way to preserve export competitiveness.
4. Conclusion The financial openness that Egypt has achieved makes it impossible for the government to control the stock of foreign assets of the p .iratc sector. The existence of a gray market premium naturally follows from the rL:luctance :o raise interest rates. The model presented in this paper suggesrs that the practice of allowing manufacturing exports at a rate closer to the gray market rate (followed between 1976 and 1979 and again in 1981) is a more effective remedy aganst the ‘Dutch diseaw’ than the 1979-1981 exchange rate unification. This conclusion takes as given that manufactures should be protected, and does not compare exchange rate protection to other methods, such as
XL?
3. Bral;,l Ie &face&, .Cm-rency diversification and export competitiwness
160’
a 140-
120-
80
1 1977
1976
1 1978
I :979
1980
5
2x
b 2Oc
15c
IOi3
5olfeG?/ i
’
1976
1977
1978
I
1979
191
Fr_e 6. The ‘Dutch disease’ in Egypt Stylized facts. (a) The shocks: - left scale: unit value of oil in (b) The wnds P (index 197F.c ZOO), ---- right scale: intcrc\t differential, R*-R(y/. responses: - left scale: LiLC/e (index 1978- IO@, --” right scale: pF/M(%).
J. Braga de Macedo, Currency diversJjicationand export competitiveness
303
export subsidies. It is simply based on the fact that in an oil exporting country with an inconvertible currency, foreign exchauge receipts are likely to be diverted from the official exchange market. As a consequence, ofticial exchange rate policy has to offset the extra incentives to consume foreign goods and hold foreign assets, in order to avoid full interest liberalization in the presence of rising world interest rates, and real appreciation in the presence of an oil price increase. Since s unified exchange rate and an offtcial once-and-for-all devaluation only redace the incentives to consume traded goods, a dual exchange rate regime coupled by a crawling peg are necessary to also reduce the incentive to hold foreign assets. Appendix
Using (3) to substitute for 4 in (6’), (7) and (8) and totally differentiating, taking into acccunt that aside from changes in r and 6 we have an exogenous devaluation of k%, the system can be written as
where I$ = 1 -E$.&,
The determinant is given by
The effect of an increase in r on the three remaining endogenous variables is
(L&$/i
= - 2a7a
J. Braga de Macedo, Currency diversification and export competitiveness
304
SQthat @=0 if 6 = 0. Also (d/~~)/$;li=27&I-(n -pf#@. similarly derived.
Tk other results are
Table A.1 Exchange rates and prices.” 1976
1978
1977
1979
1980
Gray market rate: (SIEE)
1.34
1.35
1.30
1.29
1.20
Average o&al S,!fE (a) Export (b) Import
2.01 2.21
1.89 2.10
1.72 I.85
1.43 1.43
1.43 1.43
rate:
Consumer price inflation: uop,a.
10
13
11
15
30
Wsge bill in manufacturing and mining IX million
485
555
620
770
975
Value of industrial production: fE million,
993
1120
1319
1478
1833
94
99
100
101
110
104
106
100
111
113
86
100
100
128
158
104
105
la?
114
117
87
95
Iti?
202
242
indices base 1978 = 100
Consumer prices relative to U.S. at gray market rate Labor share in manufacturing (5)/(6) Unit labor costs at the gray market rate Labor share in manufacturing rela?%e to U.S. -
Dollar Jnit value of or!
-
- -.
“Sources: (1) 1976-1978 inserwthwl Reports, Inc., average of weekly data. 1979-1980 own average of monthly data (Zj Using shares in dollar a*urrent account as weights. (3) 1976-1978 CAPIWAS, Uonthly Bulletin of Statistics, 1979-1980 own estimates. (9 Ministry of Pianning, adjusted for bonuses [9”,j, in 1979, 25% in 1980: (5) !976-1979: National Accounts Data from Ministry of Planning, 1979-1980 Ministry of Industry. (6) Index from (3) *index from I BI IFS. U.S. iine 64.18) t(7)/(6)) * U.S. inflation. (9) (7),‘bFS. U.S. Iii es (65 ey * 67..~)/(64 * 66.~). (10) Egypt General Petroleum Corporation. 1980 June.
estimates
J. B,%zgade Macedo, Currerrcy diversl$cation and export competitiveness
305
Table A.2 Domestic and foreign money (end of year). 1976
1977
1978
1979
1980
(1)
Money including foreign currency deposits (SE billion)
2.4
3.2
4.1
5.3
7.lb
(2)
Money excluding foreign currency deposits (EE billion)
2.2
2.9
3.7
4.6
5.9b
(3)
Premium of gray market over parallel rate index 1978 = I
0.97
0.96
1.oo
1.03
1.09
(4)
Currency ratio at parallel rate ( 1HMWX
9
10
11
15
20
(5)
Currency ratio at gray market rate (4) * (3)
3
10
11
15
22
Interest differential on 3 month time deposits
2
3
5
8
10
(t!l
_
“Sources: (1) Central Bank of Egypt. Includes earmarked deposits. (2) Central Bank of Egypt, 1976-1977 own estimates. Exclu Jes earmarked deposits. (3) End of year gray market raie same sources as table A.l, line 1. i6) 1976-1978 McKenzie (1979), 1979-1980 own estimates, Eurodollar rate from World Financial Markets. “Extrapolated from September data. Table A.3 Summary balance of payments (Smillion).”
(1)
Current Account
(2)
Autonomous transactions
1977
1978
1979
1981;
- 1519
- 1415
- 1572
- 1355
1270
1582
2269
2450
697
1095
non-monetary
(3)
‘Overall’ balance (I+ 2)
-251
167
(4)
Unallocated
-435
- 504
(5)
Special Financing
(6)
Monetary operations (a) Commercial banks (b) Central bank
-462
1601
809
72
-915 -1005 90
-472 - 494 22
-307 - 101 - 206
-415 - 630 280 -910
nS~~~~~t-: Central Bank of Egypt, 1980 own estimates.
References Boutros-Ghali, Y., 1980, Foreign exchange, black markets and currency substitution: Egypt, Draft (MIT, Cambridge, MA).
B
The case of
306
J. Braga de Macedo,
Currency
diversijkation
and export competitiwness
Boutros-Gha!., Y., 1981, Single export systems and the dependent et onomy model, Unpublished Ph.D. thesis (MIT. Cambridge, MA). Bruton. IL. 1981, Egypt’s development in the seventies, Drat, July (Williams College, Wiiliamstown, MA). Barter, W. and D. Purvis, 1982, Oil, disinflation and export competitiveness: A model of the *Dutch disease’ in: J. Bhandari and B. Putnam, eds., The international transmission of economic disturbances under flexible exchange rates (MIT Press, Cambridge, MA) forthcoming. t’alvo. ii.. 3981, Trying to stablize: Some theoretical reflectiors based on the case of Argentina, Draft. March (Universily oh Chicago, Chicago, IL). C~orden. M., 1980, Relationship between macroeconomtc and industrial policies, The World KC’ ..jmy 3. no. 2, Sept. C”orden. %.. 1982. Exchange rate protection, in: R. Cooper, P. Kenen, J. Macedo and J.v. Ypcrsele, eds.. The international monetary system undo: flexible exchange rates (Ballinger, Cambridge, *MA). C’orden, N. and P. Neary, 1980, Booming sector and de-industrialization in a small open cc-onomy. Draft.
(‘rockett, A. and 0. Evans, 1980, Demand ior mot ey in middle eastern countries, IMF Staff Papers. Sept. Diaz-A!eJandm, C._ !?81. Southern cone stabilization plans, in: W. Cline and S. Weintraub, eds., Economic stabilization in developing countries (The Brookings Institution, Washington, DC). Dtrii. A., 1981, A model of trade in oil and capital, Revised draft, Aug. (Princeton, NJ). Dornbusch, R.. 1980, Open economy macroeconomics (Basic Books? New York). Hcnsen. B. and K. Nashashibi, 1975, Foreign trade regimes and economic development: Egypt (Columbtn !iniversity Press. New York). Ikrdm. K. c! al.. 1980, Egypt: Economic managernent in a period of transition (Johns Hopkins University Press, Baltimore, MD). Kouri, P., 1982, Relative prices, speculation and exchange rate determination in the short and the long run, in: P. Kouri and J. Macedo, eds., Exchange rate determination and balance of paymenzs adjustment: Essays on the portfolio approach, forthcoming. Krugman, P.. 19ROa,The capital inflows problem in less developed countries, Draft, I’ob. (MIT, Camb+.Ige. XlA). K rugmau. P.. 198~0, .4nti-inflationary policy and the exchange rate, Draft, July (Warwick). Vaeedo. J . lY79. Portfolio diversification and currency inconvertibility, Ph.D. dissertation, Yale i’niver: ity (New University of Lisbon Press), forthcoming. Nacsdo, J.. 1981, The recent currency experience of Portugal; International Finance Section, I’rrccetrn University, Working paper in International Economics no. G-81-03, Oct. Macedo. J.. 1982, Currency inconvertibility, portfo!io balance and relative prices, in: P. Kouri and J. Macedo, cds., Exchange rate determination and balance of payments adjustment: Esiays on the Portfolio Approach, forthcoming. Marion, N.. 1977. Two-tier exchange rates Tnd the role of monetary policy, Unpublished Ph.D. thesis (Princeton Univers~ity, Princeton, NJ). ?vlcKenzie, G., 1979, The demand for money in Egypt, Draft, Oct. (IMF, Washington, DC). Ortiz. G. and L. Solis, 1982, Exchange rate risk and currency diversification: The case of Mexico. in: R. Cooper et al., The international monetary system under flexible exchange rates (Ballinger. Cambridge, MA). Taylor, L., !97*?.The politicsll economy of Egypt: An opening to what?, Draft (MIT, Cambridge, MA). Taylor, I-.. 198’). Macro models in deve!oping countries (McGra*v-Hill, New York). Van Wijnbergcn. 9.. 1980, Inflation, employment and the Dutch disease in oil exporting countrie<: .A disequilibrium analysis, Draft (World yank, Washington, DC). van Wijnberpr!. 5, i981a, Capita1 flows, crawling pegs and the real exchange rate ,A LDCs, Revised draft, April (World Bank, Washington, Dt?). :‘fn Wijnbergerc, S., 198tb, Optimal investment alloation and ex::hange rate management in oil exporting cown!ries: A normative analysis of the Dutch disease, Draft, July (World Bank, Wwhingtr.n, DC). ~~aterb~~, J., !982. The political economy of contemporary Egypt (Princeton University Press, Pr%cet~~n, NJ) for*‘hcclmisg.