International Exchange Systems

I we saw that the exchange rate between currencies in a foreign exchange market is affected by a number of factors. The extent to which these fluctuations are allowed is vastly dependent on the monetary systems adopted by the countries concerned.

When countries were under gold standard the value of currency of a country was fixed as the value of gold of definite weight and fineness. The exchange rate between the currencies was determined on the relative value of gold content of currencies concerned. For example, if the gold content of Indian rupee was 5 grains of standard purity, the rate of exchange between Indian rupee and US dollar could be determined as under:

1Rupee = 5\60 = USD 0.0833

1 USD= 60\5 = Rs12.

Or,

This rate of exchange was known as the mint par of exchange because, at the Indian mint one rupee would get 5 grains of gold and in the USA USD 0.0833 would get the same quantity of 5 grains of gold. Exchange rates were stable under gold standard

Because any deviation in the exchange rate would be set right automatically by the movement of gold between the countries that such deviation caused.

When the paper currency system replaced the gold standard, the exchange rate was determined by relative purchasing power of the currencies. The stability in exchange rates gave way to fluctuations with dynamic situation prevailing all rounds.