Real exchange rate misalignment and economic growth: threshold effect of trade structure

The growth effect of real exchange rate (RER) misalignment has been an unsolved issue for decades. Rodrik Hypothesis and opposing empirical evidence indicate potential non-linear nexus. This article introduces trade structure into the growth mechanism of RER misalignment and obtains robust empirical evidence employing threshold panel data method and a cross-economy panel dataset covering 67 economies and 40 years from 1980 to 2019. The findings suggest heterogenous growth effect of RER misalignment depending on trade structure: 1) for economies deeply depending on imported consumption goods, overvalued RER can enhance domestic economic development. 2) For economies focusing on exporting manufactures, RER undervaluation may boost domestic economic growth. And 3) for other economies, developed ones will benefit from overvaluation while developing ones benefit from undervaluation. The findings suggest that economies should take different exchange rate arrangements depending on their trade structure.