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Currency Devaluation and Revaluation

 Under a fixed exchange rate system, devaluation and revaluation are official changes in the
value of a country's currency relative to other currencies. Under a floating exchange rate system,
market forces generate changes in the value of the currency, known as currency depreciation or
appreciation.
 In a fixed exchange rate system, both devaluation and revaluation can be conducted by
policymakers, usually motivated by market pressures.
 The charter of the International Monetary Fund (IMF) directs policymakers to avoid
"manipulating exchange rates...to gain an unfair competitive advantage over other members."
At the Bretton Woods Conference in July 1944, international leaders sought to insure a stable post-
war international economic environment by creating a fixed exchange rate system. The United States
played a leading role in the new arrangement, with the value of other currencies fixed in relation to
the dollar and the value of the dollar fixed in terms of gold—$35 an ounce. Following the Bretton
Woods agreement, the United States authorities took actions to hold down the growth of foreign
central bank dollar reserves to reduce the pressure for conversion of official dollar holdings into gold.
During the mid- to late-1960s, the United States experienced a period of rising inflation. Because
currencies could not fluctuate to reflect the shift in relative macroeconomic conditions between the
United States and other nations, the system of fixed exchange rates came under pressure.
In 1973, the United States officially ended its adherence to the gold standard. Many other
industrialized nations also switched from a system of fixed exchange rates to a system of floating
rates. Since 1973, exchange rates for most industrialized countries have floated, or fluctuated,
according to the supply of and demand for different currencies in international markets. An increase
in the value of a currency is known as appreciation, and a decrease as depreciation. Some countries
and some groups of countries, however, continue to use fixed exchange rates to help to achieve
economic goals, such as price stability.
Under a fixed exchange rate system, only a decision by a country's government or monetary
authority can alter the official value of the currency. Governments do, occasionally, take such
measures, often in response to unusual market pressures. Devaluation, the deliberate downward
adjustment in the official exchange rate, reduces the currency's value; in contrast, a revaluation is
an upward change in the currency's value.
For example, suppose a government has set 10 units of its currency equal to one dollar. To devalue, it
might announce that from now on 20 of its currency units will be equal to one dollar. This would
make its currency half as expensive to Americans, and the U.S. dollar twice as expensive in the
devaluing country. To revalue, the government might change the rate from 10 units to one dollar to
five units to one dollar; this would make the currency twice as expensive to Americans, and the dollar
half as costly at home.
Under What Circumstances Might a Country Devalue?
When a government devalues its currency, it is often because the interaction of market forces and
policy decisions has made the currency's fixed exchange rate untenable. In order to sustain a fixed
exchange rate, a country must have sufficient foreign exchange reserves, often dollars, and be willing
to spend them, to purchase all offers of its currency at the established exchange rate. When a country
is unable or unwilling to do so, then it must devalue its currency to a level that it is able and willing to
support with its foreign exchange reserves.
A key effect of devaluation is that it makes the domestic currency cheaper relative to other
currencies. There are two implications of a devaluation. First, devaluation makes the country's
exports relatively less expensive for foreigners. Second, the devaluation makes foreign products
relatively more expensive for domestic consumers, thus discouraging imports. This may help to
increase the country's exports and decrease imports, and may therefore help to reduce the current
account deficit.
There are other policy issues that might lead a country to change its fixed exchange rate. For
example, rather than implementing unpopular fiscal spending policies, a government might try to
use devaluation to boost aggregate demand in the economy in an effort to fight unemployment.
Revaluation, which makes a currency more expensive, might be undertaken in an effort to reduce a
current account surplus, where exports exceed imports, or to attempt to contain inflationary
pressures.
Effects of Devaluation
A significant danger is that by increasing the price of imports and stimulating greater demand for
domestic products, devaluation can aggravate inflation. If this happens, the government may have to
raise interest rates to control inflation, but at the cost of slower economic growth.
Another risk of devaluation is psychological. To the extent that devaluation is viewed as a sign of
economic weakness, the creditworthiness of the nation may be jeopardized. Thus, devaluation may
dampen investor confidence in the country's economy and hurt the country's ability to secure foreign
investment.
Another possible consequence is a round of successive devaluations. For instance, trading partners
may become concerned that a devaluation might negatively affect their own export industries.
Neighboring countries might devalue their own currencies to offset the effects of their trading
partner's devaluation. Such "beggar thy neighbor" policies tend to exacerbate economic difficulties
by creating instability in broader financial markets.
Since the 1930s, various international organizations such as the International Monetary Fund (IMF)
have been established to help nations coordinate their trade and foreign exchange policies and
thereby avoid successive rounds of devaluation and retaliation. The 1976 revision of Article IV of the
IMF charter encourages policymakers to avoid "manipulating exchange rates...to gain an unfair
competitive advantage over other members." With this revision, the IMF also set forth each member
nation's right to freely choose an exchange rate system.
September 2011
Zimwe

How it works (Example):

In countries with fixed exchange rate rates, the central bank (i.e. the country's
government) can change the official value of the country's currency relative to a
baseline. The baseline may be a foreign currency (e.g. the Euro or the U.S.
Dollar) or even the price of a commodity such as gold. In floating exchange rates,
such as the U.S. economy, the currency exchange rateappreciates or
depreciates according to the market.
 For example, if China, which regulates the exchange rate of the yuan to a
baseline made up of a "basket" of international currencies, had an exchange rate
to the U.S. Dollar of:

1 Chinese Yuan = .14661 U.S. Dollars

...and China revalued its currency, the amount of dollars able to be purchased by
the Chinese Yuan would rise, increasing the buying power of the Chinese Yuan.  

The International Monetary Fund, aware of the possibility of economic instability

caused by revaluations, directed governments to avoid "manipulating exchange
rates to gain an unfair competitive advantage over other members."

Why it Matters:
The costs and benefits of stronger or weaker currency exchange rates are an
important source of economic debate. In fixed rate
economies, revaluation strategies are evaluated in terms of increasing
the buying power of the country's currency. At the same time, revaluation can
have the effect of weakening countries with strong exports, such as China. For
example, a revaluation of the Chinese Yuan would make imports from China
more expensive in the U.S., causing the U.S. to seek alternative market sources.

What is the difference between devaluation and

depreciation of a currency?
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Expert Answers
PSYPROFFIE  | CERTIFIED EDUCATOR

Both the terms devaluation and depreciation refer to the present value of a country's

money. One of the terms--devaluation--refers to a change in value of a money that
has its value set by the country's government: its value does not "float" on the open
international monetary market. The other term--depreciation--refers to a change in
value of a money that has its value determined by market forces generated in the
 open money market: its value is not determined by what its government fixes its
value to be but by market forces and buy-sell rates.

Money is devalued when a government lowers--devalues--the worth, or value, of its

currency. Money depreciates when the money market--the currency exchange
market--is willing to only pay less than before for a specific country's currency.

The difference between the two is who or what is allowed to change the value of a
currency: (1) the government (because it retains the right to fix its currency value)
or the free market forces (because a government decides to float its currency in
the international free market money exchange).

When you look at the devaluation of currency you are looking at the worth of one
country's currency as the government of that country sets the value to be.

When you look at the depreciation of currency you are looking at the worth of a
country's currency in the international monetary exchange market. 
FURTHER READING:
https://www.investopedia.com/terms/c/currency-depreciatio...
https://www.investopedia.com/terms/d/devaluation.asp

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 POHNPEI397  | CERTIFIED EDUCATOR

Both currency depreciation and currency devaluation end up with a currency that is
worth less than it previously was in comparison to the currencies of other
countries.  The difference is in how the currency comes to be worth less.

Depreciation occurs only in countries that allow their exchange rates to float.  That
is, these countries allow supply and demand to determine the value of their
currency relative to the currencies of other countries.  Depreciation occurs when
the forces of supply and demand cause the value of their currency to drop. 

By contrast, devaluation occurs only in countries that do not allow their exchange
rates to float.  These countries’ governments control the official value of their
currency.  They typically use government money to buy or sell currency so as to
keep the exchange rate where the government wants it to be.  Devaluation occurs
when a government decides that it needs to have its currency be worth less.  It then
allows its currency to become weaker.

In general, depreciation is considered to be a better thing because it happens

“naturally” where devaluation is artificial. 

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