Indices of Effective Exchange Rates : a Comparative Study of Ethiopia, Kenya and the Sudan

"This paper looks at the adequacy and consistency of exchange rate indices for African countries. The indices are adequate for comparing exchange rate movements between industrialized countries and with comparable economic performances. When one tries to estimate indices of effective exchange rate between a developing country on the one hand and between major trading countries (which are economically more developed) then the adequacy of such indices may come into question. In this paper the various indices will be examined, what they are expected to measure and whether they are adequate for developing countries. Balassa (1987) examines two definitions of the real exchange rate; the traditional and the modern. The traditional approach estimates the nominal effective exchange rate and then deflates it by relative price movement of a given and a partner country, so as to achieve finally the 'pure' exchange rate indicator."