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Depreciation - What assumptions are required for the Marshall-Lerner condition to hold?
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Depreciation (a) What assumptions are required for the Marshall-Lerner condition to hold? (short answer) The Marshall-Lerner condition states that the balance of payments will improve with a fall in the exchange rate, i.e. a depreciation, if the sum of the price elasticities of demand for imports and exports exceeds unity. For this condition to hold four restrictive assumptions are made: First, the analysis is founded upon partial equilibrium in the sense that it considers only the effect of exchange-rate variations in the market for exports and imports, and everything else is held constant, so that the position of the demand curves for exports and imports themselves are held constant. This is a very restrictive assumption because in practice prices and income will not remain constant and therefore change the position of the demand curves for imports and exports. But this assumption helps us crucially to identify the effects of a depreciation. Second, all relevant...
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