Access Investments-European Union- ROMANIA

Devaluation cannot be considered a free lunch, an increase in jobs an output with no inflation. The history of the UK economy shows that a 10% fall in the value of sterling eventually results in a 10% rise in prices. However several factors affect this.
A fall in the exchange rate can affect prices in two ways. First, there is the direct impact of dearer imports. If workers demand and get higher wages to compensate for the higher prices the inflationary effect is magnified. As was the case in the 1970s as oil prices rose and subsequent wage demands were met. The benefits may well be short-lived before inflation erodes them.
Secondly, an export boom uses up capacity in the same way as a consumer boom. If the economy is close to full capacity inflationary pressures mount.

The exact impact of devaluation on an economy will therefore depend upon the significance of trade to overall GDP, the responsiveness of wages and at what stage of the economic cycle (whether there is spare capacity) the economy is.Devaluation will work in increasing output and jobs without being offset by inflation only if workers accept real pay cuts and there is spare capacity. And the elasticity of demand for both exports and imports.

The USA tends to have a relaxed attitude towards a falling dollar since imports are only 11% of GDP as opposed to 30% in Western Europe. Furthermore, American labour is far more flexible than European labour and are more likely to accept pay cuts.

An economy heavily dependant on imports will wipe out any price advantages due to devaluation due to import price rise. For example, the UK that has such a dependency not least due to foreign owned manufacturers that import many components along with domestic ones that do the same, JCB in 1979 used 96% by value UK components but by 2010 only 36%i .