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This chapter investigates the impact of interests and institutions on exchange rate policy with case studies of South Korea, Mexico, and Iran. It shows that Korean policymakers in the 1960s and 1970s used their control over labor and financial markets to increase industrialists' support for an undervalued exchange rate. Korea's powerful industrialists also provided crucial political backing for President Park's decision to maintain an undervalued exchange rate. Mexican exchange rate politics bears many similarities to Argentine exchange rate politics: Mexican industrialists frequently opposed undervalued exchange rates, and their preferences encouraged Mexican policymakers to overvalue the peso. Iran's weak manufacturing sector typically favored an undervalued exchange rate. Although they received their preferred exchange rate policy in the 1960s and 1970s, Iranian manufacturers had insufficient clout to prevent an overvalued exchange rate in the 1950s, 1980s, or 1990s.

The Asian financial crises were unexpected by the market and many countries in the region experienced it at about the same time. Drawing upon the theoretical analyses in chapters 2-4, an operational theory is provided to answer the following questions for the Asian countries: Was a currency crisis produced by an overvalued real exchange rate? Was a debt crisis produced by an “excessive/unsustainable” external debt? What was the interaction between the two? The models imply a set of objective, theoretically-based warning signals and empirical analysis allows the assessment of which countries were or were not highly vulnerable to shocks.

This chapter evaluates whether exchange rate overvaluation in Argentina follows the logic of the conditional preference theory. The first part documents the Argentine state's inability to control its labor and financial systems, and explains why the manufacturing sector should have high levels of influence over the country's exchange rate policies. The second half of the chapter examines the political dynamics of exchange policymaking in Argentina between 1966 and 2012. It is shown that Argentina's manufacturing sector has usually preferred an overvalued exchange rate to an undervalued one. There was one important exception to this general trend: between 2001 and 2005, when the country's economy was suffering from high degrees of excess capacity and business costs became disconnected from undervaluation as a result.

This introductory chapter sets out the book's purpose, which is to explain why a relatively small number of developing countries keep their exchange rates undervalued while many more overvalue their exchange rates. Using both quantitative data on over one hundred countries and detailed case studies of five developing countries, this book provides strong evidence in support of a domestic political explanation of undervalued exchange rates. The chapter then discusses the conditional preference theory, which argues that undervalued exchange rates are most likely when the manufacturing sector is powerful and the state controls labor and financial markets. It also considers the implications of the theory for our understanding of the global political economy. This is followed by an overview of the subsequent chapters.

This chapter uses two different cross-national quantitative datasets to address the following question: Why do some developing countries undervalue their exchange rates while others maintain overvalued exchange rates? First, it examines which countries are most likely to maintain undervalued exchange rates, using data on as many as one hundred twenty developing countries from 1975 to 2006. The data indicate that exchange rates are most undervalued when countries combine powerful industrial sectors with state control over labor and financial markets. Second, it analyzes survey data on about two thousand manufacturing firms from over fifty countries in the year 1999 to understand whether and when industrialists favor undervalued exchange rates. These analyses show that manufacturing firms are more supportive of undervalued exchange rates in countries with state-controlled labor and financial systems than they are in other conditions.