Cases when exchange rate deviates from the mint parity beyond gold points, it will be automatically adjusted back. For example, in our numerical example given above, if exchange rate moves against rupee such that $ 1 buys more than Rs.40.04, then it will pay to sell dollars and buy rupees, get rupees converted into gold, send that gold to USA and get them converted into dollars and thereby make a profit.
As a result, supply of dollars and demand for rupees will increase in the market and exchange rate will move back to within the range determined by gold points around the mint-parity.
Evaluation:
The mint parity theory suffers from some serious limitations even on analytical grounds. It projects an adjustment process which is conceptually deficient and ignores some vital realities.
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i. It is based on the assumption of a highly competitive market with elastic demands and supplies of traded items.
ii. It ignores the fact of international capital flows which are in addition to and independent of trade flows. Such movements can be in response to interest rate differences and investment opportunities and not motivated by small shifts in exchange rate only. There is also the possibility of their becoming speculative in nature.
iii. It also assumes complete flexibility of cost price structures of the trading economies as also the policy of laissez-faire on the part of the authorities.
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Mint parity theory is no longer applicable in the world of today. It retains its usefulness because it enables us to have an insight into some of the fundamental forces at work in exchange markets.
