Precaution versus mercantilism: Reserve accumulation, capital controls, and the real exchange rate

Currency Undervaluation and Comparative Advantage

“…The coincidence of large reserve accumulation and rapid GDP growth in some Asian economies, most notably China, have raised the question of whether a policy of capital controls, reserve accumulation and currency undervaluation can contribute to export-led growth by sustaining a prolonged trade surplus. 1 Potential mechanisms for how a sustained trade surplus can promote growth include a home market effect (Epifani and Gancia (2017), and Corsetti, et al (2007)) as well as learning-by-doing externalities (Rodrik (2008), Aizenman and Lee (2010), Korinek and Serven (2016), and Choi and Taylor (2017)). However, this paper argues theoretically that there is a potential drawback in such a policy of export-led growth, in terms of undesirable effects on a country's comparative advantage.…”

“…More broadly, the paper relates to the literature discussing how currency undervaluation and capital market restrictions could have contributed to the growth success in China (such as Dooley, et al (2004), Rodrik (2008), Aizenman and Lee (2010), Bacchetta, et al (2013), Jeanne (2013), Michaud and Rothert (2014), Korinek and Serven (2016) and Choi and Taylor (2017)). Again, this literature tends to focus on economic environments with one traded good, while the present paper differs in showing side effects of such a growth strategy on comparative advantage between two traded sectors, and the resulting limitations of such a strategy to raise welfare.…”

Openness and Real Exchange Rate Volatility: Evidence from China

“… 6 For instance, Choi and Taylor ( 2022 ) find that international reserves held by the public sector is associated with depreciation. …”