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  1. Paul Flanagan
    Paul Flanagan June 23, 2016 at 8:02 am

    Hi Rohan
    Thanks for this important analysis. The exchange rate, and the related foreign currency shortage, is now regarded as the greatest impediment to business in PNG. Although exchange rate policy is often seen as a boring and technical issue, it is a priority for development analysis.
    Four comments. First, PNG probably would not be in the current problems if 4 June 2014 didn’t exist. That is the date for the introduction of the exchange bands and the big upward spike in the blue line to join the red line. If the blue line just kept going down from where it was on 3 June 2014, possibly at a slightly faster rate, then PNG would be much closer to a market clearing rate (so no foreign currency crisis).
    Second, the graph is in US dollars. This is appropriate as the crawling peg policy has been based on the Kina/USD exchange rate. However, this hides a major story given the strength of the US dollar over the last two years. The Kina exchange rate has stayed much flatter relative to many of its trading partners, including Australia and Asian countries. Economically, this means that the exchange rate has not been as large a policy shock absorber as suggested by this graph. If PNG continues with a crawling peg system, this should be based around the Trade Weighted Index (TWI).
    Third, it is a matter of choice whether the vertical axis for the graph shows USD/Kina, or Kina/USD. Technically, both show exactly the same ratio. My preference is for Kina/USD which inverts the graph. This would show the tail end of the graph going up rather than down. This would reflect increases in competitiveness for the PNG economy. This small technical change can move the policy narrative from concern about a “weak” Kina going down, to one of a Kina becoming more competitive and going up. If you are a poor rural coffee or cocoa exporting household in PNG, you’d prefer the latter approach. If you are in an urban area on a formal sector wage relying on food imports, you’d probably prefer the former.
    Finally, PNG is currently seeking to release a USD 1 billion sovereign bond. There are K2 billion worth of reasons for making any needed exchange rate adjustment before issuing the bond (covered in this blog).
    There are significant distributional issues in making changes and I look forward to the next post on international experiences of adjustment.

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