Topic: EconomicsCurrency

Last updated: November 24, 2019

Flexible exchange rates can be defined by global supply and the demand of currency.

If there is a high demand for a particular currency, its exchange rate relative to other currencies increases, but, if the demand is less, the value will decreases. differently, foreign exchange prices are determined by the market, that can unexpectedly change due to the ever-changing supply and demand and are not fixed or regulated by central banks. Within this definition of flexible exchange rate, we can find two types of flexible exchange rates: pure floating regimes and managed floating regimes.

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On one hand, pure floating regimes exist when, in a flexible exchange rate regime, there are absolutely no official purchases or sales of currency. On the other hand, managed floating regimes, are those flexible exchange rate regimes where at least some official intervention happens.The opposite scenario, where central banks intervene in the market with purchases and sales of foreign and domestic currency to keep the exchange rate within limits, also known as bands, is called fixed exchange rate. A fixed exchange rate is when a country ties the value of its currency to some commodity or currency. The value of a currency depends on several factors such as its inflation, prevailing interest rates in its home zone, and the stability of the government.

That’s why when traveling to another country, one must “buy” the local currency. Just like the price of any asset, the exchange rate is the price at which you can buy that currency. For example, the value of the Pound Sterling fixed against the Euro at £1 = €1.1.

If the exchange rate is fixed, the country’s central bank, or its equivalent, will set and maintain an official exchange rate. To keep this local exchange rate tied to the controlled currency, the bank will buy and sell its own currency on the foreign exchange market to balance the supply and demand.


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