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Running head: EXCHANGE RATES
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Exchange Rate Systems
Jeremiah LaPlante
MT445 Managerial Economics
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Exchange Rate Systems
Fixed Exchange Rate system
In a fixed exchange rate system countries work together for a long period of time to keep
the exchange rate constant or fixed. For many years the Chinese Yuan was fixed to the US dollar.
Another term for the fixed exchange rate is the Bretton Woods exchange rate. Countries after the
great depression worked together to get off the gold standard and switched to a fiat money
system. As was stated in the book, this system ended after the 70’s because most countries are
now on a managed floating exchange rate (Hubbard, 2012). A fixed exchange rate can be very
beneficial for countries that have extensive trade with a specific country. When it is fixed
business planning is simplified. For example if the country of Dominican Republic has a fixed
exchange rate to the US since they are the largest supplier of Baseballs, then it will not need to
raise the dollar price to export the baseballs, so their planning for exports can be easily
forecasted using a fixed exchange rate since they won’t need to take the additional cost into
account.
Floating exchange rate system
The floating system is the most common system used for the exchange rate these days. What this
system looks at is the supply and demand of a country and bases its exchange rate on that. Even
the US uses a managed floating system, except sometimes they intervene to purchase currencies
to effect the exchange rate. This is how a country can manage their exchange rates.
Pegged Exchange rate. A pegged exchange rate is when a country especially a
developing country relates their currency to a major currency like the dollar. It is the sole
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responsibility of the developing country to maintain the peg, not the other. Some countries can
peg above the equilibrium exchange rate and this can cause an overvalued currency or the
opposite undervalued by set it below the equilibrium. Most countries try to work towards a
floating exchange rate so that their supply and demand controls the exchange rather than having
to set it to another’s currency. Most countries that peg are ones that only have few other countries
in which they do business with, or trade with.
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References
Hubbard; Patrick, R. Glenn; Anthony. Economics. 4th Edition. Pearson Learning Solutions, 2012.
VitalBook file. Bookshelf. Retrieved from,
http://online.vitalsource.com/books/9781269732499/id/ch30lev2sec4a