Question

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Discuss the relative merits of fixed and floating exchange rate regimes from the perspective of an international business. (400 words – Maximum) subject ( international and global business)

Answer 1

A floating exchange rate system refers to system in which relative value of a currency is determined by foreign exchange market

A fixed exchange rate system countries fix their currencies against each other at a mutually agreed upon value.

Floating exchange rates have these main advantages:

• No international management of exchange rates: under floating exchange rates there is no need of International Monetary Fund to look over current account imbalances. if a country has large current account deficits, its currency depreciates.
• No central bank intervention: Central bank does not intervene in foreign exchange markets under the floating exchange rate regime to protect the gold parity, there’s no parity to uphold.
• Greater insulation from other countries’ economic problems: Under a floating exchange rate system, countries witness other countries’ macroeconomic problems.

• More chances of speculation activities are under this system. In the floating exchange rate system increase and decrease in currency value in the international market give birth to gain from up and down from currency value.

The advantages of a fixed exchange rate include:

• Providing greater certainty for importers and exporters, therefore more international trade and investment would be taking place in the international market. it helps the government maintain low inflation, ultimately leads to low interest rates.
• Price stability: Price stability implies that changes in prices are small, gradual, and expected. Here price stability is affected by monetary policy.
• Economic stability and prosperity: Economic &. Price stability, prosperity and the absence of large and unexpected changes in the average price level, it increase profitability to producers to increase the productions.
• Fixed exchange rates: In a reserve currency system, the reserve currency has a gold parity, and all other currencies are pegged to the reserve currency, which also leads to fixed exchange rates. It leads to the reduction of uncertainty in international trade and portfolio flows and automatic balance of payment adjustment mechanism to maintain internal and external balance.
• No speculation activities are promoted under this system : . In the fixed exchange rate system increase and decrease in currency value in the international market does not give birth to gain from up and down from currency value.