On the Record

Is There a ‘Correct’ Exchange Rate?

Geng Xiao cautions against viewing China’s exchange rate as the primary cause of its trade imbalance, and argues that finding a “correct” nominal exchange rate is in theory and in practice a very difficult task.

Many economists point to the purchasing power parity exchange rate as a potential measure of the nominal exchange rate. As long as China maintains free trade, the nominal exchange rate should be the same as purchasing power parity exchange rate. Hence, claims that China’s nominal exchange rate is undervalued are meaningless unless the purchasing power parity exchange rate calculated in those claims include non-tradable goods.

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