Devaluation

Devaluation is a monetary policy tool used by the government of a country to adjust the value of their currency downward relative to the currency of another country or group of countries (usually their trading partners).

Unlike depreciation, devaluation is a result of intentional actions taken by the government.

Devaluation is done by countries with fixed or slightly fixed exchange rates. China for example had continually devalued their currency up until not too long when they yielded to pressure from the U.S. and appreciated the Yuan. Devaluation has led to currency wars in the past whereby countries devalue their currency in response to devaluation by another country.

Why do countries find devaluation so desirable? Because devaluation causes exports to be cheaper relative to imports. Countries devalue their currency to fix trade imbalance by making it cheaper for other countries to import from their own country, and making it expensive for citizens to import from other countries. So although a strong currency signals a high performing economy, a devalued currency could help boost trade, and in effect GDP.

Devaluation does not come without its woes. Firstly, devaluation could lead to over production in the home country which could eventually cause inflation. Secondly, domestic producers could relax the quality of their goods AND services due to lack of competition from outside the country.