What Is a Revaluation?
A revaluation is a calculated upward adjustment to a country's official exchange rate relative to a chosen baseline. The baseline can include wage rates, theprice of gold, or a foreign currency. Revaluation is the opposite of devaluation, which is a downward adjustment of a country's official exchange rate.
Key Takeaways
- A revaluation is a calculated upward adjustment to a country's official exchange rate relative to a chosen baseline, such as wage rates, theprice of gold, or a foreign currency.
- In a fixed exchange rate regime, only a country's government, such as its central bank, can change the official value of the currency.
- In floating exchange rate systems, currency revaluation can be triggered by a variety of events, including changes in the interest rates between various countries or large-scale events that impact an economy.
Understanding a Revaluation
In a fixed exchange rate regime, only a decision by a country's government, such as its central bank, can alter the official value of the currency. Developing economies are more likely to usea fixed-rate system in order to limit speculation and provide a stable system.
A floating rate is the opposite of a fixed rate. In a floating rate environment, revaluation canoccur on a regular basis, as seen by the observable fluctuations in the foreign currency market and the associated exchange rates.
The U.S. had a fixed exchange rate until 1973 when President Richard Nixon removed the United States from thegold standard and introduced a floating rate system. Although China has an advanced economy, its currency has been fixed since 1994. Before the Chinese government revalued its currency in 2005, it was pegged to the U.S. dollar. After revaluation, it was pegged to a basket of world currencies.
Effects of Revaluations
Revaluations affect both the currency being examined and the valuation of assets held by foreign companies in that particular currency. Since a revaluation has the potential to change the exchange rate between two countries and their respective currencies, the book values of foreign-held assets may have to be adjusted to reflect the impact of the change in the exchange rate.
For example, suppose a foreign government has set 10 units of its currency equal to $1 in U.S. currency. To revalue, the government might change the rate to five units per dollar. This results in its currency being twice as expensive when compared to U.S. dollars than it was previously.
If the aforementioned currency revaluation occurred, any assets held by a U.S. company in the foreign economy need to be revalued. If the asset, held in foreign currency, was previously valued at $100,000 based on the old exchange rate, the revaluation would require its value to be changed to $200,000. This change reflects the new value of the foreign asset, in the home currency, by adjusting for the revaluation of the currency involved.
Causes of a Revaluation
Currency revaluation can be triggered by a variety of events. Some of the more common causes include changes in the interest rates between various countries and large-scale events that affect the overall profitability, or competitiveness, of an economy. Changes in leadership can also cause fluctuations because they may signal a change in a particular market’s stability.
Speculative demand can also affect the value of a currency. For example, in 2016, prior to the vote determining if Britain would remain part of the European Union (EU), speculation caused fluctuations in the value of multiple currencies. Since it was not yet known at that time whether or not Britain would remain part of the EU, any action taken because of this possibility was considered speculative in nature.
What Is the Effect of a Currency Revaluation?
A currency revaluation increases the value of a currency in relation to other currencies. This makes the purchase of foreign goods in foreign currencies less expensive to domestic importers. Conversely, domestic exporters will see a decline in exporting business as the exporting goods are now more expensive to foreign importers.
Is Currency Revaluation Good or Bad?
Currency revaluation is usually good for the country that does the revaluation as it increases the value of the currency. Exchange rates are bilateral, so the improvement in one currency means the decline of another; however, because the world is intertwined, changes in currency values can have far-reaching consequences, which could impact the levels of imports and exports. So though a currency revaluation might be good for a country's currency, it makes its goods more expensive, possibly hurting the level of exports.
How Can a Country Increase the Value of Its Currency?
Currencies are affected by a variety of factors. Some ways that a country can improve its currency is by purchasing its own currency and selling foreign exchange assets to do so. It can also raise interest rates, reduce inflation, and implement supply-side economic policies, such as increasing competitiveness.
