Uniform Commercial Policy, Illegal Trade, and the Real Exchange Rate: A Theoretical Analysis |
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| Authors: | O'Connell Stephen A |
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| Institution: | Stephen A. O'Connell is with the Department of Economics at Swarthmore College, Swarthmore, Pa. This article is a revision of World Bank PPR Working Paper 185 (see O'Connell 1989). The author wishes to acknowledge his indebtedness to the Macroeconomic Adjustment and Growth Division of the Country Economics Department at the World Bank for its hospitality; to the Council on Foreign Relations for its financial support; and to Bill English, Ravi Kanbur, Saul Lizondo, Dani Rodrik, Oren Sussman, and an anonymous referee for their helpful comments. |
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| Abstract: | Countries on fixed exchange rates sometimes use uniform tariffcum subsidy (UTCS) schemes as a way of achieving a real depreciationwithout disturbing the nominal exchange rate. A potential drawbackof this policy in relation to an across-the-board devaluationis that a UTCS scheme provides incentives for illegal trade.Using an optimizing model with currency convertibility and illegaltrade. I find that welfare is lower under a UTCS scheme thanunder a corresponding across-the-board devaluation and thatin some cases the real exchange rate actually appreciates inresponse to an increase in the UTCS rate. |
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