• Types of foreign exchange rates.currency - dollars image by Dmitriy Lesnyak from Fotolia.com
  
  Throughout history, various international monetary systems and different types of foreign exchange rate regimes existed. They served to manage not only countries' domestic economic affairs but also international trade relations. Course material from the University of West Georgia points out everything from the gold standard and fixed rates to the fiat money and floating currencies. Foreign exchange rates have become ever more visible in the increasingly global economic environment and are very useful for both promoting trade and maintaining monetary stability.
  
  

Floating Rates

• Floating rates are the main type of foreign exchange rates and the primary reason for currency fluctuations in foreign exchange markets. All major economies from developed countries allow the value of their currencies to float freely under market forces. Floating rates are preferable if a country's economy is strong enough to withstand the constant change in the value of its currency. For example, a country's currency may lose value in the foreign exchange market if trade deficit is causing weak demand for the currency and strong demand for foreign currencies. As a lower currency value is making imports more expensive and exports cheaper, both local and foreign buyers may switch their demand to the country's domestic goods and services. An economy that has the resources and means to meet the shifting demand can automatically adjust both foreign trade and domestic economic activities. Eventually the value of its currency can bounce back up.
  
  

Fixed Rates

• The smaller economies of developing countries use fixed foreign exchange rates to promote trade and attract foreign investments. For example, by fixing its currency against the currencies of other countries, a country keeps export prices affordable to foreign buyers and accumulates trade surplus over time. Fixed currency rates also allow a country to assure foreign investors of the stable value of their investments in the country. However, under fixed rates, a country's monetary policies can become ineffective, especially when trying to stimulate domestic economic activities by consumers at home. Injecting more money into the economy would normally reduce a country's currency value against foreign currencies under floating rates. As imports become more expensive, consumers would gradually focus their demand on domestic products, potentially lifting up the economy. With fixed rates, however, the exchange value of domestic currency does not move and more money means more buying power for imports. Such an outcome does not achieve policy makers' intention to increase domestic demand.
  
  

Pegged Rates

• Pegged foreign exchange rates are a compromise between floating rates and fixed rates. Under pegged rates, a country allows its currency to fluctuate within a fixed band around a periodically adjusted central value. Pegged rates are more appropriate for a transitioning, developing economy. They allow both stability and a certain degree of market adjustments. While no artificial exchange rates, fixed or pegged, can fix economic problems single-handed, they do provide an opportunity for growth. Countries hope that economic improvements can bring in the foreign currency reserves required to keep the stated rates. When an economy fails to produce the expected results, such a system cannot maintain the fixed value for long, according to Brigham Young University in "Fixed Exchange Rates vs. Floating Exchange Rates."