floating exchange rate system

Floating exchange rate system

Purchase or sale of the currencies of other nations by a central bank for the purpose of influencing foreign exchange rates or maintaining orderly foreign exchange markets. Also called foreign-exchange market intervention.

Floating Exchange Rate System

The practice in which a central bank buys and sells one or more foreign currencies in order to affect the exchange rate of its own currency. To give a very simple example, if a central bank believes its own currency is overvalued, it may buy other currencies on the open market to increase demand and therefore the price of these currencies. The extra demand will likely drive down the exchange rate of its own currency to a lower level.

floating exchange rate system

a mechanism for coordinating EXCHANGE RATES between countries' currencies which involves the value of each country's currency in terms of other currencies being determined by the forces of supply and demand in the FOREIGN EXCHANGE MARKET (see EQUILIBRIUM MARKET PRICE). Over time the exchange rate of a particular currency may rise (appreciate) or fall (depreciate) depending, respectively, on the strength or weakness of its underlying BALANCE OF PAYMENTS position and exposure to SPECULATIVE activity See APPRECIATION, definition 2, DEPRECIATION, definition 2.

Generally speaking, the business and financial community dislikes unregulated floating exchange rates since the market tends to produce erratic and destabilizing exchange rate movements, often prompted by currency speculation, which makes it difficult to conclude meaningful trade and investment transactions, because of the uncertainties surrounding the profit-and-loss implications of such deals when exchange rates are fluctuating widely. Governments too dislike disorderly currency markets and prefer where possible to ‘manage’ their exchange rates both to moderate the excessive short-term fluctuations and to smooth out the underlying longer-term trend line by buying and selling currencies as appropriate out of their foreign exchange equalization account. While this creates a more settled and controlled environment in which to operate, nonetheless firms are usually forced to cover their currency deals in the forward exchange market.

Government intervention in currency markets sometimes goes beyond merely smoothing its exchange rate and may involve a deliberate attempt to manipulate the exchange rate so as to gain a trading advantage over other countries (a so-called dirty float). See FORWARD MARKET, INTERNATIONAL MONETARY FUND, ECONOMIC POLICY, CENTRAL BANK, GROUP OF 7 (G7), PURCHASING POWER PARITY, EXCHANGE RATE EXPOSURE.

References in periodicals archive ?
China's cabinet will maintain a floating exchange rate system and will realise yuan convertibility on the capital account in an orderly way, the statement also said.
The IMF also said China has the ability to achieve an effectively floating exchange rate system within two or three years.
ANKARA, Oct 25, 2010 (TUR) -- Turkish Deputy Prime Minister and State Minister for the economy Ali Babacan stuck up for the free floating exchange rate system in Turkey and said credibility of Turkish lira was growing in the world parallel to confidence shown in Turkish economy.
The release of the ACU can be seen as an initial step toward the integration of Asian currencies just as the European currency unit, a similar floating exchange rate system adopted in 1979 at the start of the European Monetary System, was replaced with the euro in 1999, it said.
This summer, Beijing introduced the floating exchange rate system and virtually revalued the yuan as part of preparations for Hu's visit to the United States.
It is similar to the managed floating exchange rate system that Australia had in the early 1980's before we fully floated the exchange rate in December 1983.
It should join the floating exchange rate system of Japan, the United States and European countries to realize a fair evaluation of the yuan.
The effect of nominal and real shocks to real exchange rates under floating exchange rate system was examined.
A major argument in favor of a floating exchange rate system has been that it allows countries to pursue independent monetary policies.
Aided by a recovery in agricultural production and a surge in private trading activities in response to exchange and trade liberalization measures, the decline in real GDP growth has been reversed; the rate of inflation has fallen; the external current account deficit, excluding official transfers, has narrowed sharply; net official international reserves have risen; and the floating exchange rate system adopted in May 1993 has provided an appropriate framework for maintaining external competitiveness.
Some scholars' and officials' dissatisfaction with the performance of the present floating exchange rate system, coupled with increased interest in restoring fixed exchange rate arrangements and buoyed by the apparent success of the European Monetary System (EMS), made the conference timely.
At the same time the Government decided to do away with the old system and switch over to the floating exchange rate system.