Transcript Exchange Rate Regimes of the World

Exchange Rate Regimes of
the World
Exchange Rate Regimes
•
What is an exchange rate regime?
• “the exchange rate regime is the way a
country manages its currency in respect to
foreign currencies and the foreign exchange
market.”
•
What are the most common types of
exchange rate regimes?
• Fixed Exchange Rate
• Floating Exchange Rate
• Pegged Exchange Rate
Fixed versus Floating Exchange Rate
To determine whether a regime is fixed
or floating you have to decide where to
draw the line between narrow and wide
fluctuations.
 A rule is to use annual variations in
excess of +/- 2% and +/-1% as the sign of
floating regime.

Fixed Exchange Rate Regimes



Definition: in a fixed exchange rate system the
government or central bank intervenes in the
currency market so that the exchange rate stays close
to an ‘exchange rate target’.
The central bank is unable to affect the exchange rate
through monetary policy. However, the central bank can
use fiscal expansion to create an excess demand for the
currency causing a rise in domestic output. The central
bank will then purchase foreign assets to increase the
money supply, and prevent the interest rate from rising
causing an appreciation.
Due to these limitations the government of a country
with a fixed exchange rate will want to control the
amount of currency they let in and out. This will prevent
any unwanted destabilization of the domestic currency.
Floating Exchange Rate Regimes

Definition: a country’s “currency is set by the foreign-exchange
market through supply and demand for that particular currency
relative to other currencies.”

In a floating exchange rate system the value of the currency is
affected by everyday markets for supply and demand.Therefore
trade and capital flows play a big role in determining the
currency’s value.

There are two different types of floating exchange rate systems.
Dirty Float and Clean Float and this depends on whether or not
there is government intervention.

The exchange rate can be stabilized through both monetary and
fiscal policy:
◦ Through monetary policy when there is an excess in money supply
the government would purchase domestic assets to weaken the
currency and push the interest rate down.
◦ Fiscal expansion causes an appreciation of the currency that forces
the government to purchase foreign assets. This will increase the
money supply preventing the currency appreciation.
Free Float
The movements between peaks and troughs may take
months or years to occur.
 The exchange rate will show a great deal of short-run
volatility, with lots of up-and-down movement from day
to day.
 Examples between the U.S. dollar with all the three
foreign countries:
-the yen
-the pound
-the loonie

Free Float Cont.

The range of variation is about the same,
with the maximum being about one and a
half times the minimum:
-The yen ranges from about $0.0065 to
$0.010.
-The pound from $1.3 to $1.95.
-The loonie from $0.6 to about $0.85.
Pegged Exchange Rate Regimes

This is most common under
developing countries as well as
communist countries. It’s
somewhat similar to a fixed
exchange rate however a pegged
rate has a wider range of value
versus the fixed exchange rate.
An example of a country with a
pegged exchange rate would be
China. China’s currency was
pegged to the U.S. Dollar until
2005 as you can see in the graph.
Chinese Yuan to One USD
10.0000
9.0000
8.0000
7.0000
6.0000
5.0000
Series1
4.0000
3.0000
2.0000
1.0000
0.0000
1981-01-01
1982-11-01
1984-09-01
1986-07-01
1988-05-01
1990-03-01
1992-01-01
1993-11-01
1995-09-01
1997-07-01
1999-05-01
2001-03-01
2003-01-01
2004-11-01
2006-09-01
2008-07-01
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Type of Peg
Currency Board- a type of fixed regime
that has special legal and procedural rules
designed to make the peg harder which
means more durable.
 Crawling peg- when he exchange rate
follows a simple trend and if there is any
variation than it’s called a crawling band

American Dollars to 1 Chinese
Yuan
120 days
latest (Apr 6)
0.146311
lowest (Mar 30)
0.145149
highest (Mar 26)
0.147596
American Dollars to 1 JPY
120 days
latest (Apr 6)
0.00992211
lowest (Oct 20)
0.00982898
highest (Dec 17)
0.0113843
American Dollars to 1 CAD
120 days
latest (Apr 6)
0.810281
lowest (Mar 9)
0.765926
highest (Nov 4)
0.869414