Episodes of the J-curve

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Supplementary slides in International
Macroeconomics Finance

• Episodes of the J-curve

Jarir Ajluni - July 2005
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J Curve Definition
The j-curve is an incident where the Trade
Balance would actually be worsened following
domestic currency devaluation (Exchange rate
depreciation), the elasticity approach ignores
time, as the exchange rate increases this would
not boost exports instantaneously, because the
switching mechanism takes time to occur, while
price inelastic home demand of imports would
increase value of imports instantly, this would
worsen the TB in the short-run until the
increased competitiveness of exports is realised
in the longer horizon and the TB is improved, the
TB values over time takes a shape of letter J as
in the Figure.
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J Curve Episodes
Episodes of the J Curve are numerous, but are a
consequences of different reasons, the following
slides shows episodes from industrialised economy
with well functioning financial markets, and from
an emerging market with imperfections in the
financial markets and lastly episode from a tiny
economy with high government interference and
corruption.
First the J curve episode of the US during the
mid 1980s is exhibited as often quoted in the
literature as interesting, in the 2nd example,
the case of the UK the incident of the J curve
is a text-book classic example of currency
devaluation, the next example is derived from
Korean data during the Asian crisis where the
lack of trust of foreigners in the banking and
financial sector lead to a capital flight and
excessive devaluation that lead to a significant
rise in the value of imports in the first
instance leading to a trade balance exhibiting a
J curve, lastly it is worthwhile to consider a
case of the tiny small open economy like Jordan
where sudden devaluation was exploited by the
informed Gov. officials on the expense of
ill-informed public that lead to further
devaluation and showing a J curve behaviour in
the trade balance.
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The US Episode of 1985
Depreciation of the dollar early 1985
Trade Balance worsened then improved
Data Source IMF International Financial
Statistics (IFS), obtained from ESDS
International Services
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The UK Episode of 1967
/ Depreciation in Q3 1967
Trade Balance worsened in the first qtr
Data Source IMF International Financial
Statistics (IFS), obtained from ESDS
International Services
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Koreas Episode of 1997
WON/ Depreciation in Q4 1996
Trade Balance worsened in the first qtr
Data Source IMF International Financial
Statistics (IFS), obtained from ESDS
International Services
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Jordans Episode of 1988
Trade Balance remained chronically negative but
improved after 2 qrts
JD/ Depreciation in Q4 1998
Data Source IMF International Financial
Statistics (IFS), obtained from ESDS
International Services
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J curve A Structuralist view
Structure of the international Trade of a Small
Open Economy
The economy consists of two groups Wage-takers
Capitalists
Two kinds of Goods Services Traded and Non-
Traded.
Both Capitalists, Wage-takers are the importers
of traded goods, however the exporters consists
of Capitalists only.
Large proportion of imported Traded goods have a
price inelastic demand as it is often serves as
irreplaceable consumption goods and inputs of
production for domestic non-traded goods.
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J curve A Structuralist view
Effects of a J-curve scenario
J curve suggest depreciation increase imports in
the short instance then boosts the exports.
Devaluation leads to domestic inflation harming
the Wage-takers Capitalists this inflation is
high enough to affects wage-takers in a long
unspecified term but affects Capitalists exports
adversely only in the short run.
Effects on imports devaluation increase the cost
of buying irreplaceable goods, lack of capacity
for the expenditure switching effect would
chronically worsen the trade balance and cause
domestic inflation.
The inflation is not high enough to offset the
devaluation effects, exports boost because of the
exchange rate depreciation increasing the
Capitalists revenues from exporting.
Welfare effects The depreciation increase income
inequality, boosts exports but doesn't reduce
poverty.
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Concluding Remarks
Other reasons for the J curve of the US, Krugman
(1991)-

• Other things were not Constant.
• Exporters were pricing to market delaying the
  adjustment.

• Given the J curve phenomena then Does the
  traditional
• expenditure switching adjustment mechanism work?
  
• According to Krugman (1991) the answer is YES
• the adjustment does work work well but only
  after a lag.

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• References

1. Krugman, Paul. (1991), Has the Adjustment
   Process Worked? Policy analyses in International
   Economics, 34, Institute for International
   Economics.
2. Hallwood, P and MacDonald, R. (2000)
   International Money and Finance, 3rd edition