Ensure the UK price of oil is the same as the global price. Haircuts, on the other hand, cannot be

Imported and are priced locally. If the pound devalues, the price of oil remains constant in dollar

Terms, so automatically rises in pound terms. The price of haircuts remains constant in pound

Terms, so the relative price of haircuts has fallen. Hairdressing will now be relatively less profitable

Compared to oil production. The signal sent by the exchange rate eases adjustments in the economy

between the domestic and international sectors. Often when the economy receives a “shock,”

The relative size and profitability of the two sectors has to adjust, and the exchange rate is one

Means by which the price changes needed to induce the adjustment can be transmitted to the two

Sectors. For instance, a shock might include a big rise in domestic savings, without a rise in domestic

Investment. In this event, consumption at home falls, and exports logically need to rise to offset

This. The exchange rate falls, increasing demand for exports through lower prices. The exchange

Rate is simply a component of the price mechanism, albeit an important one, responding to the

Pressures set by preferences for domestic and foreign goods, and the flows of savings and investment

Funds across currencies. It follows that the value of the currency is obviously also determined