Difference between Fixed and Flexible Exchange Rate

There are various types of exchange rates that are prevalent in the market, but the most commonly used exchange rate systems are fixed exchange rate and flexible exchange rate systems.

Fixed exchange rate system is referred to as the exchange system where the exchange rate is fixed by the government or any monetary authority. It is not determined by the market forces.

Flexible exchange rate system is the exchange system where the exchange rate is dependent upon the supply and demand of money in the market.

In a flexible exchange rate system, the value of the currency is allowed to fluctuate freely as per the changes in the demand and supply of the foreign exchange.

Let us look at some of the points of difference between the fixed and flexible exchange rates

Fixed Rate
Flexible Exchange Rate
Fixed rate is the system where the government decides the exchange rate Flexible exchange rate is the system which is dependent on the demand and supply of the currency in the market
Deciding authority
Fixed rate is determined by the central government Flexible rate is determined by demand and supply forces
Impact on Currency
Currency is devalued and if any changes take place in the currency, it is revalued. Currency appreciates and depreciates in a flexible exchange rate
Involvement of Government Bank
Government bank determines the rate of exchange No such involvement of government bank
Need for maintaining foreign reserve
Foreign reserves need to be maintained No need for maintaining foreign reserve
Impact on BOP (Balance of Payment)
Can cause deficit in BOP that cannot be adjusted Deficit or surplus in BOP is automatically corrected

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