Question

Exchange Rate and Monetary Policy

Explain the Exchange rate determination under less-­‐developed Countries and

Is any link between the exchange rate floating and monetary policy for emerging markets?

Answer 1

There are several types of exchange rate system in the foreign exchange market system example

1. Fixed exchange rate system rate of exchange between currency is fixed by central bank of the respective countries
2. Flexible exchange rate system where the rate of exchange rate determined by the supply and demand mechanism determines the exchange rate
3. Managed exchange rate system where both free market and government determines the exchange rate system

Under less developed countries exchange rate determined by managed exchange rate where central bank of the country interfere the market when currency appreciation and depreciation happens.

Example, in the foreign exchange market surplus foreign currency, is absorbed by the central bank similarly when the shortage of the foreign currency central bank will realize this currency surplus currency and maintaining same exchange rate system.

Thus above example highlights that there exist the relationship between exchange rate and monetary policy.