Question

Compare the advantages/disadvantages of fixed (or pegged) exchange rate versus floating exchange rate. Define what are fixed, pegged, and floating exchange rate. Provide examples.

Answer 1

Fixed exchange rates

Advantage -

• In fixed exchange rate there is no currency fluctuations
• sinch exchange rate is fixed hence it encourage companies and firms to invest

Disadvantage

• There is lesser flexibility in fixed exchange rates
• Fixed exchange rates may require higher interest rates

Floating exchange rates

Advantages -

• In floating exchange rates the intervention of central banks are not needed
• There is freedom of internal operation in this

Disadvantage -

• Currency speculation is promoted in floating exchange rates
• It causes inflation

fixed exchange rate - when a regime applied by government of the country ties the currency official exchange rate of the country with another country's currency or its price of gold is called fixed exchange rate

Eg -If you visit saudi there, you know beforehand that the dollar will buy you 3.75 saudi riyals since there exchange rate is fixed

Pegged exchange rate - Fixed exchange rate are oftenly called as pegged exchange rate so it is same as the above definition

Floating exchange rate - When a regime applied by government that value of currency will be allowed to fluctuate in response to foreign exchange markets

Eg - like oneone US dollar may buy one british pound today but it might only buy 0.85 british pound tomorrow