MONETARY SYSTEMS
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Lecture 6
Vallyon Andrea
AGENDA
1.
2.
3.
Presentation about the money history
Exchange rate systems
History of International Monetary Systems
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LEARNING GOALS


To describe the
different types of
exchange rate systems
Understand the
history of monetary
systems
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CORE MATERIAL
Stephen Valdez: An
Introduction to Global
Financial Markets,
Macmillan Press
Ltd.1997
 CH 7, page:137- 173

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DILEMMA OF SIMPLIFIED EXCHANGE
RATE POLICY


Fixed or free-float?
Two extremities +
others = exchange
rate systems
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EXCHANGE RATE DEFINITIONS

The price of one currency expressed in
terms of another currency.


U.S. dollar buys 1.40 Canadian dollars, the exchange
rate is 1.4 to 1. Also called foreign exchange rate.
The exchange rate is the price at which the
currency of one country can be converted to the
currency of another
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CHANGES IN EXCHANGE RATES
effects on the profits
 the value of foreign investments
held by individual investors.


For a Swiss investor owning
Japanese securities, a
strengthening of the Swiss Franc
relative to the yen tends to reduce
the value of the Japanese
securities because the yen value of
the securities is worth fewer
francs
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EXCHANGE RATE SYSTEMS 1

Freely floating or flexible exchange rate

Market forces of supply and demand determine
rates.

Forces influenced by
a. price levels
b. interest rates
c. economic growth

Rates fluctuate over time randomly.
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FREELY FLOATING SYSTEM
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FREELY FLOATING OR FLEXIBLE
EXCHANGE RATE
Advantages
 No problems with
international liquidity
 Automatic correction
in the balance of
payment
 Insulated from
external events
Disadvantages
 Uncertainty
 Speculation can be
destabilising specially
in the short run
 Todays crises
questioning the power
of the market
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EXCHANGE RATE SYSTEMS 2

Managed Float (Dirty Float)

Market forces set rates unless excess volatility
occurs.

The government intervenes to influence the
exchange rate
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EXCHANGE RATE SYSTEMS 3


Target-Zone Arrangement
Central bank intervenes to set the exchange rate
at the preannounced price, by selling or buying
foreign exchange currency in return for the
national currency
 Market forces constrained to upper and
lower range of rates
 Members to the arrangement adjust their
national economic policies to maintain
target.
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CRAWLING PEG IN HUNGARY
(1995-2001)
After a period of increasing external and internal
imbalancies : crawling peg was introduced by
Bokros government
 The currency is pegged to USD and Euro
 Band:+/ - 2.5%
 Monthly devaluation at a preannounced rate
(progressively decreasing crawl from 1.9% to
0.25)
 The interest rate was decreased also
 Result: inflation dropped from 31% to 10.8%
(1998)

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EXCHANGE RATE BAND
Limit within the rate of exchange can fluctuate
 Used as an intermediate scheme between fixed
and free float regimes
 Maximum rate: ceiling rate




maximum rate the CB is willing to allow in the
interbank market.
At this rate the CB will ? Foreign currency to
maintain the rate of exchange at that level
Minimum rate: floor rate the CB will allow

At this level the CB will ? foreign currency so that
the exchange rate remains at that level
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CRAWLING PEG IN HUNGARY 2001-2008



2001-2002: Widening the band: +/-15%
2003: depreciation of the middle of the band:
283.36 forint/euro
2008: elimination of band: floating rate
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TOOLS OF INTERVENTION

Why to intervene?


Exchange rate strongly effects competitiveness
Tools:
Interest rate
 Open market activity
 Compulsory deposit rate

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
Thank you!
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