Question

Suppose a country's exchange rate is fixed for many years. At time t, the currency appreciates. Use graphs to plot the response of its exports, imports and trade balance over time (hint: think about the J curve)

Answer 1

The impact of J curve is seen in trade balance as the weaker currency J-curve eff is observed in trade balances because the weaker currency firstly renders added costly imports and cheaper exports which leads  to a higher early trade deficit or a very small surplus. However, as the affected country's exports become cheaper in terms  currency , they start raising  as foreign demand increases for the low priced goods . Local consumers also motivated to purchase few of costly imports and substitute them with comparable local goods which have now become reasonable .Resultant to which , the trade balance Ultimately  improves and jumps back to a higher level than it was at before the exchange rate fall. The gap is caused because of the fact that import traders  and export traders have to honor the foregoing  contracts, so the trade quantity at the initial stage will stay unchanged even if  the rate of exchange and relative prices change.

And When there will be an appreciation in the country's currency , a reverse J-curve may occur. This occurs because the country’s exports become expensive initially for importing countries than it was before. If other countries are at the state to provide goods at new rate which are more reasonable  , the stronger currency will decrease  its export competitiveness and may witness fall in demand for its exports . Furthermore, local consumers may shift to imported types of goods if they are unexpectedly cheap