When people talk about devaluation, they usually mean the depreciation of a national currency against hard currencies that other countries use as reserves. These are the dollar, the euro, the pound sterling, the yen, the Swiss franc and the yuan.

For example, the devaluation of the ruble is a decrease in its exchange rate, primarily against the dollar and euro.

In this article we will tell you what devaluation is, how it differs from inflation, what its causes and consequences are. Consider the example of Russia, which is currently experiencing another crisis.

The difference between devaluation and inflation

Inflation is a decrease in the purchasing power of citizens, the depreciation of money in the domestic market of the state. That is, products and services rise in price faster than wages. At the same time, the exchange rate of the national currency may remain stable - says economist Kirill Yurovskiy.

Devaluation - the imbalance between the gold reserve of the country and the money in circulation, as well as the instability of the national currency in the international market.

Inflation affects all citizens of a country, while devaluation can be noticed only in international trade or currency conversion.

For example, a trip to the U.S. in November 2021 would cost a Russian citizen less than in November 2020 because the dollar has depreciated over the year. That's how devaluation works.

And going to the grocery store in a year will only become more expensive - that's inflation.

Inflation almost always accompanies devaluation. This is because imported goods and raw materials become more expensive and local producers raise their prices too.

Reasons for devaluation

There are two main causes of devaluation: the decrease in foreign reserves and the over-issue of the national currency. The government starts printing more money when:

  1. The balance of trade is disturbed because imports exceed exports - spending exceeds income, there is a shortage of money.
  2. The value of oil and other minerals decreases when the state lives off their exports. Profits are not enough to cover expenses.
  3. The geopolitical situation worsens. For example, other countries impose sanctions on the state, and it cannot fully conduct foreign trade or buy raw materials. Because of this, production suffers, profit from exports decreases.

Often, the collapse of the national currency is a deliberate move by the Central Bank. It does it to make domestic goods more attractive and keep control over the money supply.

Types of devaluation

Devaluation can be overt or covert.

In an open devaluation, the Central Bank officially declares the situation and the value of money changes rapidly, sometimes overnight. This process is accompanied by a monetary reform or replacement of the old money with new money.

An example of open devaluation is the monetary reform of 1961 in the USSR. At that time the dollar was worth 4 rubles, after - 90 kopecks. At the same time the exchange of old rubles to new was carried out at a ratio of 1:10.

During a covert devaluation the population is not informed by the government. The money is devalued slowly, while the state does not withdraw it from circulation.

Another division of devaluation is between controlled and uncontrolled devaluation.

With a controlled devaluation, the Central Bank has full control and is able to keep the value of the national currency at a certain level.

With uncontrolled devaluation, the situation is out of control.

The positive and negative effects of devaluation

The devaluation has some positive effects for the state:

  • export earnings and budget revenues grow, and the balance of payments improves;
  • the country's international reserves are saved if the Central Bank does not use them to support the national currency rate;
  • the competitiveness of domestic goods on the domestic and world markets grows;
  • the demand for the products and services of local producers increases.

But devaluation inevitably leads to negative consequences. In particular:

  • inflation rises, and the economic crisis sets in;
  • the population's savings value and purchasing power drop;
  • unemployment grows;
  • the profits of companies that trade with foreign countries fall;
  • fewer foreign goods enter the country and they become more expensive.

A sharp depreciation of the national currency undermines confidence in it: foreign investors do not want to open deposit accounts in the national currency or cooperate with local entrepreneurs.

If devaluation leads to higher prices in the domestic market, the standard of living of the population falls. If a default occurs, the country's economy suffers a catastrophe; it will take several years to recover.

Consequences for business

Those who cooperate with foreign partners and buy raw materials abroad can lose the most from devaluation.

Manufacturers oriented at the Russian market will benefit. The more expensive the imported goods are, the higher is the demand for their goods at the old price. At the same time it is possible to raise prices and not lose customers, because foreign competitors will have even higher prices.

For example, analysts from CloudPayments found that demand for Russian cosmetics in June-July 2022 increased by 58% compared to the same period in 2021.

Tourist regions of Russia are benefiting from the devaluation. The cheaper the ruble, the more people vacation in the country rather than abroad. This means that the demand for rentals and excursions is growing.

In August 2022 tourist flow to St.-Petersburg has grown on 35%, to Moscow - on 25-30%, to Kazan - on 25% in comparison with the last year.

How businesses should prepare for devaluation

The main problem for business during devaluation is cooperation with foreign suppliers and creditors, as payments will be made in more expensive currency. That's why it's recommended when there is a high risk of currency devaluation

  • keep free money in the currencies in which to pay for components and consumables;
  • to look for domestic suppliers;
  • to get rid of loans in foreign currencies;
  • look for ways to enter the international market;
  • attract consumers for whom imported goods will soon be unavailable.

The manager can choose the appropriate strategy. They differ depending on the direction of the business: for export or import, sale of goods or service.

What is important to remember

Devaluation of a currency is a decrease in its value relative to freely convertible currencies.

A country's central bank can manage a devaluation if it is caused by domestic economic problems.

To keep your business as safe as possible from the threat of devaluation, you should buy raw materials from suppliers in Russia, and sell them abroad.