About Flexible and Fixed Exchange Rate

1581 Words7 Pages
An exchange rate shows the rate of your currency value of another currency. For example, if you are buying a car in other country, you have to buy their own currency to purchase the car costs RM70000 and opponent currency is won. The exchange rate for Won to Ringgit is 1:350 Korean Won. It means that every 350 won you exchange in Ringgit, you could get 1 Ringgit. To buy the car costs RM70,000, 24,500,000 Won is needed to be exchanged. There are two main methods that could determine the price of currencies against others, fixed rate and flexible rate. Fixed exchange rate is the rate that has been constant at official rate. The rate could not be maintained constant due to trading activities. To maintain the exchange rate fixed, the government takes any measures to prevent from fluctuating, such as buying or selling their currency. These events disrupt balance of payment and balance of trade. The government could interplay the demand and supply in the foreign exchange market presume that equilibrium of exchange rate is not favorable. This diagram shows the how a country interplay with demand and supply of foreign exchange market. There are country A and B. When policy maker from country A increases the price above price equilibrium, which means higher exchange rate creates the market surplus, to maintain the rates to be at the level Country A should buy up the surplus. In fact that Country A central bank should decrease money supply. As higher exchange rate could lead Country A currency more expensive (revaluation), which could decrease exports but higher Country A currency makes foreign currency relatively cheaper so people from Country A could import more foreign goods. These lead to balance of payment to be deficit due to surplus in exchange market and to maintain the rate fixed above equilibrium, outflow of payment is needed. Outflow payment creates deficit

More about About Flexible and Fixed Exchange Rate

Open Document