Different exchange rate systems

On February 8, 2011 | By | In Currencies

We have 4 different types of exchange rate systems where an exchange can operate.

1. Fully fixed exchange rates

In these systems, the government or the central bank intervenes in the currency market to maintain the exchange rate in a fixed quantity. This kind of systems doesn’t allow fluctuations from their central rate.

2. Semi fixed exchange rates

These systems are characterized for permitting a little movement in a determinate range. The exchange rate is the dominant target of the economic policy-making and the interest rates are established to meet the target exchange rate.

The advantage of both kinds of fixed rates is the less speculative activity of the market, providing a great certainty for exporters and importers.

3. Free floating exchange rates

In these cases, the value of the currency depends on the foreign exchange market’s demand and supply. Ought to that, the trade and the capital flows are the main elements that affect the exchange rate.

The main characteristic of these systems is the exchange rates’ possibility of moving according to the market force, always without the intervention of the government or economical institutions.  The currency can experiment a change on its value due to the changes in the supply and demand.

These systems are not very common as the governments usually try to control and manage the value of their currencies.

4. Managed floating exchange rates

These systems are the preferred for most of the countries, where the value of the currency is determinate by the market forces and where the government can intervene if needed.

In the case of the floating exchange rates we can highlight two different advantages, the first one is the fact that the large balance o payment deficit that some countries could experimented can be solved by an automatic adjustment provided by the fluctuations in the exchange rate. The second advantage is the possibility of the government to flexibly determine the interest rates.

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