¶ … fixed and floating exchange rates mechanisms are the exact opposites of one another, the advantages of one are generally the disadvantages of the other. Anyhow, in order to be able to evaluate for each case in part its positive and negative aspects, we should start with defining each, as most of the advantages and disadvantages derive there from.
The fixed exchange rate mechanism refers to a mechanism where "the government (central bank) sets and maintains the official exchange rate)
." The key word in this mechanism is pegging, which means that the currency has a price set against a major currency of the world and that the central bank ensures that this rate is kept throughout the entire period the currency is pegged.
The main advantage in this case refers to stability. Indeed, a fixed exchange rate mechanism helps eliminate or speculative activity on the respective currency. With no more currency risk, the country adopting such a mechanism will have no worries about possible devaluations of its national currency.
This is very important because it creates a certain degree of macroeconomic stability in the country. First of all, foreign investors are encouraged by the economic climate. Indeed, for a foreign investor, the elimination of the currency risk is most important. Generally, foreign investors choose several hedging techniques, in the form of future...
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