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Exchange rate stabilization

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How Can Persistently Weak Currencies Be Stabilized?

Currency derivatives, as part of hedging strategies, are an important and complex component of modern currency markets. Many argue that the modern system exhibits efficiency and that the derivative markets merely communicate clear price signals so that market participants, both buyers and sellers, can maximize their personal positions. Others argue that the system creates grand inefficiencies and misinformation and that the world would be better off with a Gold Standard to eliminate such inefficiencies.
With which side do you agree? Why?

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The answer to this problem explains exchange rate stabilization and derivatives . The references related to the answer are also included.

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The counter point is correct. Latin American countries have suffered from high inflation. This forces local firms to buy in the US. One correct suggestion is that inflation rate should be reduced. Further, these countries should not increase interest rates without assurance of exchange rate stability. If a foreign firm invests in a country it wants to be assured that there will not be continued depreciation. To stabilize the exchange rates the country first has to improve its economic fundamentals. It should avoid current account deficits and should not have balance of payment problems. Those countries that have currencies that are being devaluated regularly have high imports and low exports. This situation should change. These countries need to have a strong monetary and fiscal policy. This will reduce the need for devaluation. There must be simultaneous effort to reduce inflation, develop strong fiscal policy, have a budget with transparency, reduce red-tape, and increase GDP growth. The Latin American countries must improve their central bank operations so that monetary policies can be efficiently implemented. The overall economic environment should be improved so that higher rates of investment and enhanced economic activity take place. I agree with the contention that inflation should ...

Solution provided by:
Hatim Baxamusa, MBA
Education
  • BSc , University of Calcutta
  • MBA, Eastern Institute for Integrated Learning in Management
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