Ans.
Fixed
exchange rate refers to international gold standard under which countries
define their currency in gold at a ratio is assumed to be fixed indefinitely. Under IMF fixed exchange rates are known as
pegged exchange rate, where the exchange rate is determined by the government
and enforced by pegging operations or by resorting to some form of exchange
control and sometimes by healthy combinations of both methods.
Advantages of Fixed Exchange rate:
1) Promotion
of international trade:
Fixed
Exchange rates ensures certainty and confidence and thereby promote
international trade. With the help of fixed exchange rate the foreigners can
easily know how they have to pay and how much they will receive in terms of
home currency
2) Encourage
foreign investment:
Fixed
exchange rate system with facilitate the growth of foreign investments for a
longer period of time. With the presence of stable rate of exchange the
investors will be motivated to invest their amount for a longer period of time.
3) Suitability
Fixed
exchange rate system is very much suitable for the world of currency area.
4) Removes
speculation:
A fixed
exchange rate system will help to remove the speculation in the foreign exchange
market.
5) Stability:
Fixed
exchange rate system also helps the economy to achieve internal economic
stability and will be useful to overcome the problems like hoarding black
marketing and unemployment.
6) Control
over inflation:
Fixed
exchange rate helps to control inflation by the way of maintaining the rate of
exchange rate stable
7) Overcoming
BOP deficits:
The
countries having BOP deficits adopt fixed exchange rate system so as to prevent
continuous depreciation of the value of their currency.
Disadvantages of Fixed
exchange rates:
1)
Rigidity:
Fixed
Exchange rate is more rigid and therefore it may increase the risk and may also
restrict the growth of the trade.
2) Problem
of liquidity:
Fixed
exchange rate system created the problem of liquidity. As there exist
continuous changes in the rate of exchange the need for reserves is increasing
day by day.
3) Instability:
Fixed
exchange rate brings economic difficulties of one country to another country.
4) Misconception:
There are
many misconception relating to fixed exchange rate like it promotes foreign
trade, however there are no historical evidences to that effect.
