Business, Legal & Accounting Glossary
Currency exchange rate which is determined by free-market forces, rather than being fixed by a government. A type of exchange rate regime wherein a currency’s value is permitted to fluctuate according to the foreign exchange market is referred to as a floating exchange rate or a flexible exchange rate. A floating currency is a currency that uses a floating exchange rate. A fixed exchange rate is the opposite of a floating exchange rate.
A foreign exchange rate is the rate at which one currency is converted into another. It is also known as the rate of exchange. A currency price is dependent on several factors. These include relative inflation, interest rate differentials, growth of the economy, debt, deficit and export competitiveness. Some of the developed nations of the world maintain a “floating” exchange rate.
In a floating exchange rate, the currency rate is not fixed and changes with change in the condition of the market. Fluctuating exchange rates have a significant impact on the profit earned by multinational corporate houses.
The floating exchange rate is the currency exchange rate ascertained by free-market forces. An ideal floating exchange rate will be independent of any government control. The value of a currency is set through the foreign exchange market where it is influenced by demand and supply vis-a-vis other currencies. A currency that employs a floating exchange rate is known as a floating currency.
A floating exchange rate is termed ‘self-correcting as an imbalance in demand and supply will mechanically be corrected in the market. For example, low demand for a particular currency will lower its value and make imported goods dearer. This will stimulate demand for locally produced goods and services. More jobs will be created as a consequence. A floating exchange rate is always changing in tune with economic fluctuations.
There is no ideal floating exchange rate in the real world. No currency is fully floating. The central bank of any country intervenes for currency stabilization when extremes of currency appreciation and depreciation occur. This type of controlled currency exchange is known as a ‘managed float’. The central bank may permit the country’s currency to float freely between a price ceiling and floor.
A floating exchange rate may increase foreign exchange volatility. This poses a grave problem for countries with emerging economies. Liabilities are denominated in foreign currencies while assets are held in local currency. Sudden depreciation in the exchange rate leads to instability in the domestic financial system of any emerging economy country.
It is a system where two parties interchange certain amounts of unlike currencies. A series of interest payments based on the initial cash flows are exchanged. One party may pay a floating exchange rate while the other may pay a fixed interest rate. Principal amounts are paid back when the swap attains maturity. Both principal and interest are fully exchanged in a currency swap.
It is being thought by economists that, in most circumstances, traders prefer to use floating exchange rates as compared to fixed exchange rates. As there is an automatic adjustment in the floating exchange rates, so with it is possible for a country to dampen the impact of shocks and foreign business cycles, and it also helps a country to preempt the possibility of having a balance of payments crisis.
Despite all the facts, in certain circumstances, fixed exchange rates may be preferable due to their greater stability and certainty. Maybe it is not necessarily true if we consider the results of countries that have made attempts to keep the prices of their currency “strong” or “high” relative to others, such as the UK or the Southeast Asia countries before the Asian currency crisis.
Mundell-Fleming Model
Mundell-Fleming model has set forth the debate of making a choice between fixed and floating exchange rate regimes, model argues that it is not possible for an economy to simultaneously maintain a fixed exchange rate, free capital movement, and an independent monetary policy. Only it has the choice that it can select any two for control and has to leave the third one to the market forces.
A central bank will normally intervene to stabilize the currency in cases of extreme appreciation or depreciation. Thus, the exchange rate regimes of floating currencies may be more technically referred to as a managed float. For instance, it might be allowed by a central bank to float freely between an upper and lower bound, a price “ceiling” and “floor”. In order to provide price support or resistance, management by the central bank may take the form of buying or selling large lots, or, in the case of some national currencies, there might be some legal penalties for trading outside these bounds.
I wondered what the floating exchange rate was and how it would apply to us and our business, in the long run.
The floating exchange rate was a joy to experience as we appreciated a free market to naturally set the exchange rates.
He would often check the floating exchange rate before he would plan his trip to Canada. Since it was always changing, he wanted to go when it was the most beneficial to him.
Rate of Exchange
adjustable rate
currency swap
interest rate cap
strong
floating
floating exchange rate system
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This glossary post was last updated: 26th November, 2021 | 0 Views.