Floating Exchange Rate
Floating exchange rate is also known as fluctuating exchange rate and it refers to a kind of exchange rate system through which the currency value is given time to fluctuate in accordance to the market foreign exchange. A currency using floating currency is commonly referred to floating currency and it is contrasted with a currency that is fixed.
It is the decision made by a country to allow the value of its currency to change in a free manner. In such cases the Central Bank does not constrain the currency and it is not required to maintain relationship with other currencies. The value of the currency is determined by trade in foreign exchange market.
Most of the currencies in the world can be described as floating and they include some of the most traded currencies such as the Dollar, the Japanese Yen, the Euro, British pound as well as the Australian dollar. Initially, the Swiss franc was traded through a floating exchange rate but from 2011 September it was pegged to euro. Central Banks are often known to participate in markets for purposes of attempting to influencing floating exchange rate.
Canadian dollar in more than one way is similar to a “pure” floating currency as the Central Bank hasn’t interfered with the price of the dollar since 1998. The United States dollar comes in secondly and it has little changes in the foreign reserves. This is contrast to the United Kingdom and Japan currencies which need intervention to a great extent.
From 1946 to the start of the 70s, Bretton Woods system ensure fixed currencies were the norm and in 1971 United States made the decision to no longer uphold the exchange rate of the dollar at 1/35th an ounce of gold such that the country’s currency wasn’t fixed anymore. After the Smithsonian Agreement in 1973, most of the currencies across the globe made the decision to follow suit. However, other countries like most of the States in the Gulf fixed their countries currency to the value of other currencies and this has recently been linked to slow growth rates in those countries.
Whenever a currency floats targets different from the exchange rate is used for purposes of administering monetary policy. Some economists think in most cases, a floating exchange rate is far preferable to one that is fixed. Floating exchange rate adjusts automatically enabling countries to reduce impact of foreign business cycle, shocks as well as preempt the chances of a crisis of balance of payments. However, in certain cases, fixed exchange rates are preferable because they offer greater certainty and stability.
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