Fixed Exchange Rates


In a regime of , how might a Central Bank operate its
monetary policy and its policy for intervention in foreign exchange
markets? Why does it need foreign exchange reserves?
The last 20 years have seen an increased international interdependence due
to the reduction in the controls on capital flows between countries have
been much reduced. Also, since the early 1970's, many countries have
permitted much more flexibility in their exchange rates. These
developments have raised several issues: how does the exchange rate regime
affect the efficacy of domestic monetary and fiscal policies undertaken by
small, open economies? In response to this question, many analysts such
as exchange ...

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government acting through the central bank, agrees
to buy or sell as much of the currency people wish to trade at the fixed
exchange rate. Most central banks act as the government's banker, the
Banks' bank, lender of last resort and issuer of notes as well as
supervising the banking system and operating monetary policy. Monetary
policy refers to the attempts to manipulate the interest rate and the money
supply so as to bring about desired changes in the economy. The aims of
monetary policy are the same as those of economic policy generally. They
are the maintenance of full employment, price stability, a satisfactory
rate of economic growth, and a balance of payments equilibrium.

Under a fixed exchange rate regime, governments are committed to
intervention in the foreign exchange market to maintain a given nominal
exchange rate. It is important by the central bank to intervene in order
to buy or sell the foreign exchange in the open market economy. It is
very ...

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rate to appreciate, and forcing the central bank to
intervene to hold the exchange rate constant. It buys the foreign money,
in exchange for domestic money. This intervention takes place until the
interest rates are back in line with those in the world market. When price
adjustment is slow, an increase in the nominal money supply increases the
real money supply in the short run, and tends to reduce domestic interest
rates. With perfect capital mobility, this leads to a capital account
outflow until the domestic money supply has been reduced to its original
level and interest rates have returned to world levels. Hence domestic
policy is powerless in a fixed exchange rate ...

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"Fixed Exchange Rates." Essayworld.com. October 31, 2007. Accessed July 19, 2018. http://www.essayworld.com/essays/Fixed-Exchange-Rates/73608.
"Fixed Exchange Rates." Essayworld.com. October 31, 2007. Accessed July 19, 2018. http://www.essayworld.com/essays/Fixed-Exchange-Rates/73608.
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PAPER DETAILS
Added: 10/31/2007 10:24:05 AM
Category: Economics
Type: Premium Paper
Words: 1526
Pages: 6

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