Forex Floating / Flexible Exchange Rates

Free or floating rates refer to the system where the exchange rates are determined by the conditions of demand for and supply of foreign exchange in the market. The rates are free to fluctuate according to the changes in demand and supply forces with Flexible rates of exchange refer to the system where the exchange rate is fixed but is subject to frequent adjustments upon the market conditions. Thus it is not a free or floating rate with cent per cent flexibility, but is any system providing for adjustments as and when required.

However, in practice, often the above difference ignored and both the terms are used interchangeably. The term ‘managed float’ or ‘dirty float’ is used to refer to the system where the central bank intervenes only where the market forces cause violent fluctuations, to bring some order in the market.

Under floating rates no par value is declared and the central bank does not intervene in the market. Any disparity in the balance of payments is adjustment through the changes in exchange rate that take place automatically in the market there is no change in the exchange reserves of the country.

A lively debate on the advisability of adopting fixed or floating rates of exchange has always been engaging the attention of economists. Forceful agreements have been put forward in favor of both systems.