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UPSC Prelims 2021 Paper-1 📅 10 Oct, 2021

Consider the following statements:
The effect of devaluation of a currency is that it necessarily
1. improves the competitiveness of the domestic exports in the foreign markets
2. increases the foreign value of domestic currency
3. improves the trade balance

Which of the above statements is/are correct?

A
1 only
B
1 and 2
C
3 only
D
2 and 3
Result Summary
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UPSC Prelims
2021 • 10 Oct, 2021 • Paper-1
Consider the following statements:
The effect of devaluation of a currency is that it necessarily
1. improves the competitiveness of the domestic exports in the foreign markets
2. increases the foreign value of domestic currency
3. improves the trade balance

Which of the above statements is/are correct?
Correct Answer
1 only
Export Competitiveness: When a currency is devalued, it becomes cheaper relative to foreign currencies. This means foreign buyers can purchase more domestic goo......
Ref/Book : UPSC Prelims 2021
Ref. Subject Economy
Chapter -
Ref. Topic External Sector
Pg. No -
💡 Analysis & Explanation
Export Competitiveness ▼
When a currency is devalued, it becomes cheaper relative to foreign currencies. This means foreign buyers can purchase more domestic goods with the same amount of their currency, making domestic exports instantly more price-competitive abroad. Thus, statement 1 is an intrinsic and necessary effect.
Currency Valuation ▼
The very definition of devaluation is a deliberate downward adjustment of a country's currency value against another currency. It strictly decreases, rather than increases, the foreign value of the domestic currency. Thus, statement 2 is completely false.
Trade Balance Caveats ▼
While devaluation makes exports cheaper and imports costlier, it does not 'necessarily' improve the trade balance immediately. The outcome depends heavily on the price elasticity of demand for exports and imports (Marshall-Lerner condition). In the short run, it might even worsen the trade balance (the J-curve effect). Thus, statement 3 is incorrect.
Conclusion ▼
Only statement 1 accurately describes an inevitable outcome of devaluation.
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