The Malta Independent
The September Quarterly just
published by the Central Bank features on page 33 a chart showing the NEER and
REER. For those not conversant with economic acronyms NEER means Nominal
Effective Exchange Rate while REER is Real Effective Exchange Rate.
The September Quarterly just
published by the Central Bank features on page 33 a chart showing the NEER and
REER. For those not conversant with economic acronyms NEER means Nominal
Effective Exchange Rate while REER is Real Effective Exchange Rate.
The NEER
measures the value of the Maltese lira with a weighted composite of the
currencies of our main trading partners and competitors. The REER, that is a
more reliable indicator, adjusts the NEER to take account of inflation
differentials between those prevailing locally and those applicable in the
benchmark composite.
The chart shows that compared to a starting position as at January 1995 of 100, both the NEER and the REER index were at around 108 as at end of last July. In layman’s terms this means that our rate of exchange has hardened by 8% beyond what is justified by inflation differentials.
Many consider devaluation of the Maltese Lira a dirty word to mention let alone to contemplate. There is a strong argument that with an open economy like ours using the rate of exchange as an instrument of economic policy would have scant results given that we import most of what we consume and export most of what we produce. The argument for stable exchange rate is pervasive and the monetary authorities have always considered stability of the rate of exchange as an objective in its own right.
This differs quite distinctly from the behaviour of the Central Banks responsible for the main trading currencies. They profess emphatically that the fixing of exchange values is a market function and their role is to ensure that the market remains orderly and not to suppress it. May be the exception to this is the Japanese Central Bank that is known to intervene heavily on exchange markets to influence the rate and not just to retain it orderly.
Robert Rubin, the former Treasury Secretary under the Clinton Administration, accredited with the strong dollar policy, has just published a co-authored book titled ‘In An Uncertain World’ where he explains how careful he had to be in using consistent and vague phraseology when reply to pressing questions about the US administration exchange policy. He always maintained that the administration favours a strong dollar policy but the actual level is a market function which the Authorities would intervene to influence only in case of undue market disturbance. The level of the rate of exchange should be the consequence rather than the cause of economic performance
On the local front the Maltese Lira is not traded internationally. Its level is determined through a transparent peg against a basket of currencies. The intention is that gradually the basket will be replaced by a straight Euro peg until the Maltese lira is fused into the Euro when eventually we will join the EMU.
But should we disregard the 8% overvaluation at a time when clearly the local economy is struggling to maintain its international competitiveness? Regaining this competitiveness through inflation differentials looks quite impossible. Our partners/competitors inflation rate is very low and getting much lower than that would raise the spectre of deflation. Furthermore this will take time which cannot be afforded either by consequences of our having to compete with an over-valued currency or by the timing schedule for euro-accession.
The risk of locking into the Euro at an over-valued rate that cannot be subsequently corrected, is too grave to contemplate. The pressure to come within EMU criteria solely through fiscal measures will deliver social pain which will be carried by a narrow segment of society i.e. those who are forced to lose their job in the re-structuring process.
An adjustment in the rate of exchange to remove its declared over-valuation will automatically render us internationally competitive, bring us within the EMU criteria avoiding the need for hard fiscal measures, and spread the adjustment pain on a wide spectrum of society and not just on those unfortunate enough to lose their jobs.
If devaluation is too dirty a word to contemplate let’s euphemistically refer to it a adjustment, removal of over-valuation or flexibility of the exchange rate. After all that how the G8 recently referred to the USD fundamental over-valuation. The objective of exchange rate stability should not be taken to mean that we should tolerate or condone an unjustified overvaluation of over 5% which has been carried for over 5 years with clearly dismal economic results.
The chart shows that compared to a starting position as at January 1995 of 100, both the NEER and the REER index were at around 108 as at end of last July. In layman’s terms this means that our rate of exchange has hardened by 8% beyond what is justified by inflation differentials.
Many consider devaluation of the Maltese Lira a dirty word to mention let alone to contemplate. There is a strong argument that with an open economy like ours using the rate of exchange as an instrument of economic policy would have scant results given that we import most of what we consume and export most of what we produce. The argument for stable exchange rate is pervasive and the monetary authorities have always considered stability of the rate of exchange as an objective in its own right.
This differs quite distinctly from the behaviour of the Central Banks responsible for the main trading currencies. They profess emphatically that the fixing of exchange values is a market function and their role is to ensure that the market remains orderly and not to suppress it. May be the exception to this is the Japanese Central Bank that is known to intervene heavily on exchange markets to influence the rate and not just to retain it orderly.
Robert Rubin, the former Treasury Secretary under the Clinton Administration, accredited with the strong dollar policy, has just published a co-authored book titled ‘In An Uncertain World’ where he explains how careful he had to be in using consistent and vague phraseology when reply to pressing questions about the US administration exchange policy. He always maintained that the administration favours a strong dollar policy but the actual level is a market function which the Authorities would intervene to influence only in case of undue market disturbance. The level of the rate of exchange should be the consequence rather than the cause of economic performance
On the local front the Maltese Lira is not traded internationally. Its level is determined through a transparent peg against a basket of currencies. The intention is that gradually the basket will be replaced by a straight Euro peg until the Maltese lira is fused into the Euro when eventually we will join the EMU.
But should we disregard the 8% overvaluation at a time when clearly the local economy is struggling to maintain its international competitiveness? Regaining this competitiveness through inflation differentials looks quite impossible. Our partners/competitors inflation rate is very low and getting much lower than that would raise the spectre of deflation. Furthermore this will take time which cannot be afforded either by consequences of our having to compete with an over-valued currency or by the timing schedule for euro-accession.
The risk of locking into the Euro at an over-valued rate that cannot be subsequently corrected, is too grave to contemplate. The pressure to come within EMU criteria solely through fiscal measures will deliver social pain which will be carried by a narrow segment of society i.e. those who are forced to lose their job in the re-structuring process.
An adjustment in the rate of exchange to remove its declared over-valuation will automatically render us internationally competitive, bring us within the EMU criteria avoiding the need for hard fiscal measures, and spread the adjustment pain on a wide spectrum of society and not just on those unfortunate enough to lose their jobs.
If devaluation is too dirty a word to contemplate let’s euphemistically refer to it a adjustment, removal of over-valuation or flexibility of the exchange rate. After all that how the G8 recently referred to the USD fundamental over-valuation. The objective of exchange rate stability should not be taken to mean that we should tolerate or condone an unjustified overvaluation of over 5% which has been carried for over 5 years with clearly dismal economic results.
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