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Running head: EXCHANGE RATES 1 Exchange Rate Systems Jeremiah LaPlante MT445 Managerial Economics EXCHANGE RATES 2 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 EXCHANGE RATES 3 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. EXCHANGE RATES 4 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