Currency Crises in Reverse: Do Large Real Exchange Rate Appreciations Matter for Growth?

While currency crises have been extensively studied, the opposite phenomenon, large appreciations, has been far less researched, in spite of strong interest in policy circles and in the media. We fill this gap by providing a theoretical analysis and an empirical exploration of large real exchange rate appreciations. We develop a simple model that contrasts the pattern of exchange rate and growth depending on the underlying shock. The model shows that an appreciation stemming from a productivity boom leads to a stronger growth than the same appreciation stemming from a surge of capital inflows. We then use a sample of 30 advanced and 38 emerging market economies, with annual data going back to 1960, and focus on the connection between large appreciations and output growth. Our first empirical finding is that, while countries faced with large real exchange rate appreciations experience significantly lower export growth and higher import growth, this impact on trade flows does not translate into overall output growth. Second, we find supporting evidence for our theoretical patterns in a panel regression, as growth tends to be higher during the appreciation episodes associated with productivity shocks than those associated with surges of capital inflows.