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A fixed exchange rate, sometimes called a pegged exchange rate, is a type of exchange rate regime wherein a currency's value is matched to the value of another single currency or to a basket of other currencies, or to another measure of value, such as gold. In Finance, the exchange rates (also known as the foreign-exchange rate, forex rate or FX rate) between two currencies specifies how The currency band is a system of Exchange rates by which a Floating currency is backed by Hard money. In Finance, the exchange rates (also known as the foreign-exchange rate, forex rate or FX rate) between two currencies specifies how The exchange rate regime is the way a country manages its Currency in respect to foreign currencies and the Foreign exchange market. Floating rate may also refer to a Floating interest rate applied to a Loan or other lending product A linked exchange rate system is a type of Exchange rate regime to link the exchange rate of a Currency to another The foreign exchange ( currency or forex or FX) market refers to the market for currencies. A futures exchange is a central financial exchange where people can trade standardized Futures contracts; that is a contract to buy specific quantities of a Commodity In financial markets the retail forex ( retail currency trading or retail FX) market is a subset of the larger Foreign exchange market. A currency is a unit of exchange, facilitating the transfer of Goods and/or services It is one form of Money, where money is A currency future, also FX future or foreign exchange future, is a Futures contract to exchange one Currency for another at a specified date In Finance, a non-deliverable forward ( NDF) is an outright forward or Futures contract in which counterparties settle the difference between In Finance, a forex swap (or FX swap) is an over-the-counter short term Interest rate derivative instrument. A currency swap (or cross currency swap) is a foreign exchange agreement between two parties to exchange a given amount of one Currency for another and after a specified In finance a foreign exchange option (commonly shortened to just FX option or currency option) is a derivative financial instrument where the owner has A bureau de change is an organisation or facility which allows customers to exchange one Currency for another The exchange rate regime is the way a country manages its Currency in respect to foreign currencies and the Foreign exchange market. A currency is a unit of exchange, facilitating the transfer of Goods and/or services It is one form of Money, where money is The gold standard is a monetary system in which a region's common media of exchange are paper notes that are normally freely convertible into pre-set fixed quantities of Gold As the reference value rises and falls, so does the currency pegged to it. In addition, fixed exchange rates deprive governments of the use of an independent domestic monetary policy to achieve internal stability. A former president of the Federal Reserve Bank of New York described fixed currencies as follows:
- "Fixing the value of the domestic currency relative to that of a low-inflation country is one approach central banks have used to pursue price stability. The advantage of an exchange rate target is its clarity, which makes it easily understood by the public. In practice, it obliges the central bank to limit money creation to levels comparable to those of the country to whose currency it is pegged. When credibly maintained, an exchange rate target can lower inflation expectations to the level prevailing in the anchor country. Experiences with fixed exchange rates, however, point to a number of drawbacks. A country that fixes its exchange rate surrenders control of its domestic monetary policy. "[1]
In certain situations, fixed exchange rates may be preferable for their greater stability. For example, the Asian financial crisis was improved by the fixed exchange rate of the Chinese renminbi, and the IMF and the World Bank now acknowledge that Malaysia's adoption of a peg to the US dollar in the aftermath of the same crisis was highly successful. The Asian Financial Crisis was a period of Financial crisis that gripped much of Asia beginning in July 1997 and raised fears of a worldwide economic meltdown ( Talk People's Republic of China) PEOPLE'S REPUBLIC OF CHINA ARTICLE GUIDELINES The International Monetary Fund ( IMF) is an International organization that oversees the Global financial system by following the Macroeconomic The World Bank is an internationally supported Bank that provides financial and technical assistance to developing countries for development programs (e For the biogeographical region see Malesia Malaysia (məˈleɪʒə or /məˈleɪziə/ is a country that consists of thirteen states and Following the devastation of World War II, the Bretton Woods system allowed Western Europe to have fixed exchange rates until 1970 with the US dollar. World War II, or the Second World War, (often abbreviated WWII) was a global military conflict which involved a majority of the world's nations, including The Bretton Woods system of monetary management established the rules for commercial and financial relations among the world's major industrial states Western Europe at its most general meaning means 'all the countries in the West of Europe ' The United States dollar ( sign: $; code: USD) is the unit of Currency of the United States; it has also been [1]
Yet others argue that the fixed exchange rates (implemented well before the crisis) had become so immovable that it had masked valuable information needed for a market to function properly. That is, the currencies did not represent their true market value. This masking of information created volatility which encouraged speculators to "attack" the pegged currencies and as a response these countries attempt to defend their currency rather than allow it to devalue. These economists also believe that had these countries instituted floating exchange rates, as opposed to fixed exchange rates, they may very well have avoided the volatility that caused the Asian financial crisis. Countries like Malaysia adopted increased capital controls believing that the volatility of capital was the result of technology and globalization, rather than fallacious macroeconomic policies which resulted not in better stability and growth in the aftermath of the crisis but sustained pain and stagnation.
Countries adopting a fixed exchange rate must exercise careful and strict adherence to policy imperatives, and keep a degree of confidence of the capital markets in the management of such a regime, or otherwise the peg can fail. The capital market is the Market for securities, where companies and Governments can raise longterm funds Such was the case of Argentina, where unchecked state spending and international economic shocks disbalanced the system and ended up forcing an extremely damaging devaluation (see Argentine Currency Board, Argentine economic crisis, and the Mexican peso crisis). For a topic outline on this subject see List of basic Argentina topics. Devaluation is a reduction in the value of a Currency with respect to other monetary units The Argentine Currency Board pegged the Argentine peso to the U The 1994 economic crisis in Mexico, widely known as the Mexican peso crisis, was triggered by the sudden Devaluation of the Mexican peso in the early On the opposite extreme, China's fixed exchange rate with the US dollar until 2005 led to China's rapid accumulation of foreign reserves, placing an appreciating pressure on the Chinese yuan. China ( Wade-Giles ( Mandarin) Chung¹kuo² is a cultural region, an ancient Civilization, and depending on perspective a National
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Maintaining a fixed exchange rate
Typically, a government wanting to maintain a fixed exchange rate does so by either buying or selling its own currency on the open market. This is one reason governments maintain reserves of foreign currencies. If the exchange rate drifts too far below the desired rate, the government buys its own currency off the market using its reserves. This places greater demand on the market and pushes up the price of the currency. If the exchange rate drifts too far above the desired rate, the opposite measures are taken.
Another, less used means of maintaining a fixed exchange rate is by simply making it illegal to trade currency at any other rate. This is difficult to enforce and often leads to a black market in foreign currency. Nonetheless, some countries are highly successful at using this method due to government monopolies over all money conversion. This is the method employed by the Chinese government to maintain a currency peg or tightly banded float against the US dollar. Throughout the 1990s China was highly successful at maintaining a currency peg using a government monopoly over all currency conversion between the Yuan and other currencies.
Criticisms
The main criticism of fixed exchange rate is that flexible exchange rates serve to automatically adjust the balance of trade. The balance of trade (or net exports, sometimes symbolized as NX) is the difference between the monetary value of Exports and imports in an When a trade deficit occurs, there will be increased demand for the foreign (rather than domestic) currency which will push up the price of the foreign currency in terms of the domestic currency. That in turn makes the price of foreign goods less attractive to the domestic market and thus pushes down the trade deficit. Under fixed exchange rates, this automatic re-balancing does not occur.
Literature
- Tiwari, Rajnish (2003): Post-Crisis Exchange Rate Regimes in Southeast Asia, Seminar Paper, University of Hamburg. (PDF)
See also
- List of pegged currencies
- Black Wednesday
- Linked exchange rate
References
- ^ THE IMPORTANCE OF PRICE STABILITY - Remarks by William J. In British Politics and Economics, Black Wednesday refers to the events of 16 September 1992 when the Conservative A linked exchange rate system is a type of Exchange rate regime to link the exchange rate of a Currency to another McDonough, President Federal Reserve Bank of New York before the Economic Club of New York. (October 2, 1996) http://www.newyorkfed.org/newsevents/speeches/1996/sp961002.html
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