Bog'liq T.Y.B.A. Economics Paper - IV - Advanced Economic Theory (Eng)
(b) DEMERITS: 1. Instability and uncertainty: The flexible exchange rates lead to instability and
uncertainty. This reduce the volume of investments and
international trade. Due to increasing risks, long-term investments
are curtailed. This instability hampers foreign trade and capital
movements between the countries.
2. Speculation: Under this exchange system there will be more speculation
causing further fluctuations. Due to uncertainty of changing in
exchange rate more importance is given on the functions of foreign
exchange market like Hedging, Speculation and Arbitrage.
Speculation has a stabilizing influence on exchange rates. 3. Inflationary: This exchange increase in inflationary pressures on the
domestic price level causing further depreciation. On the other
hand, the fixed exchange rate system prevents inflation and
maintains the external value of currency. It has been pointed out
that whenever due to deficit in BOP, the currency depreciates the
prices of imports go up. The higher prices of imported materials
raise the prices on industrial products and thus generate cost-push
inflation.
4. BOP problem: Due to uncertainty in the rates, elasticity‘s of demand also
get affected in the foreign market. It leads to BOP problems in the
country if the value of currencies rise externally.
5. Unsuitable: This exchange rate is unsuitable if the factors are immobile.
It is also not good during the war situation and political instability.
Check your progress: 1) What is Pegged exchange rate?
2) What is Fluctuating exchange rate?
