Chapter

Floating Currencies

Author(s):
International Monetary Fund
Published Date:
January 1976
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The present Articles of the Fund, it has been seen, require each member to establish a par value for its currency in terms of gold as a common denominator. Alternatively, the par value may be expressed in terms of the U.S. dollar of the weight and fineness in effect on July 1, 1944,8 the effect of which is simply to express the par value indirectly in terms of gold. Each member is required to adopt appropriate measures to ensure that spot exchange transactions involving its own currency and the currency of another member that take place within its territory are carried out at rates of exchange that are no more than 1 per cent below or above the parity between the two currencies.9 In practice, many members performed this obligation by intervening in their exchange markets with U.S. dollars. As a consequence, the maximum margin available for exchange transactions between the U.S. dollar and the currency of another member that used the dollar for intervention might be no more than ½ of 1 per cent. If this narrower margin had not been observed, the margin of 1 per cent for exchange transactions involving the currencies of two members that used the U.S. dollar for intervention could have been exceeded because in these transactions the margin at any time would be the cumulation of the actual margin of each against the dollar. On July 24, 1959, however, the Fund adopted a decision that broadened the maximum margin for transactions involving the intervention currency to 1 per cent and the maximum cumulative margin to 2 per cent.

Provisions of the Articles on par values had the effect of establishing a pattern of fixed relationships among all currencies for which par values had been established, in which scope for the movement of exchange rates was limited to the margins. This system came to an end with the announcement of the official inconvertibility of the U.S. dollar on August 15, 1971. An effort was made, in the Smithsonian agreement of December 18, 1971, to create a similar system pending agreement on amendment of the Articles. The Smithsonian arrangements were more flexible because they involved, as extralegal expedients, the more informal concept of the “central rate” in place of the par value and margins wider than those that had been observed under the par value system. In March 1973 even these more flexible arrangements broke down, and thereafter the exchange practices in effect no longer conformed to a general pattern of fixed relationships and defined margins.

The exchange practices in effect at present are sometimes described as the general floating of currencies. In that sense, floating means that the obligations of the Articles with respect to par values and margins are not being observed by any members. Sometimes, however, the word is applied only to the practice of floating independently against all other currencies because the issuer has not pegged (fixed) its currency, within fairly narrow margins, to another currency or to a composite of currencies.10

The exchange practices that were in operation in mid-1975 have been classified according to the following five categories: (i) independent floating; (ii) pegging to a single currency; (iii) pegging to a composite (or “basket”) of currencies or to the special drawing right (SDR); (iv) pegging to a single currency, with frequent changes in the peg according to a predetermined formula; and (v) joint floating of two or more currencies under arrangements agreed by the issuers of the currencies.

The Annual Report of the Fund for 1975 sets forth some broad generalizations about the practices of members during the preceding two years, and the following table shows how many members fell into each of these five categories of exchange practices on June 30, 1975 and what proportion of the total trade of members each category accounted for.11 Members with more diverse economies and less dependence on foreign trade fell into category (i) or (v). It will be seen from the table that these members account for the bulk of world trade, and their currencies predominate in international financial transactions. Smaller countries, with less diversified economies and relatively larger dependence on foreign trade, tended to peg their currencies in accordance with exchange practices that fell into one of the other categories. Some members have not maintained the same arrangements at all times and have moved from one category to another.

Exchange Rate Practices of Fund Members on June 30, 19751
Number of CurrenciesPercentage Share

of Trade of

Fund Members2
(i) Currencies that float independently1146.4
(ii) Currencies pegged to a single currency38114.4
(a) Pegged to U.S. dollar5412.4
(b) Pegged to French franc130.4
(c) Pegged to pound sterling101.6
(d) Pegged to Spanish peseta1
(e) Pegged to South African rand3
(iii) Currencies pegged to a composite of other currencies1912.4
(a) SDR55.0
(b) Other147.4
(iv) Currencies pegged to others but for which the peg is changed frequently in light of some formula42.0
(v) Currencies that are floating jointly723.2
Total12298.4
Sources: The currency classifications are a Fund staff assessment; the trade shares are from International Financial Statistics.

The numbers and percentages in the table should be regarded as approximate because not all practices fit precisely into the categories noted. The practices of four members (representing 1.6 per cent of world trade) are particularly difficult to classify, and they have been omitted from the table.

Imports plus exports, 1974.

Where one member uses the currency of another, the practice is classified as a peg to that currency.

Sources: The currency classifications are a Fund staff assessment; the trade shares are from International Financial Statistics.

The numbers and percentages in the table should be regarded as approximate because not all practices fit precisely into the categories noted. The practices of four members (representing 1.6 per cent of world trade) are particularly difficult to classify, and they have been omitted from the table.

Imports plus exports, 1974.

Where one member uses the currency of another, the practice is classified as a peg to that currency.

Most developing members maintained a fixed relationship between their currencies and the currency with which they intervened in their exchange markets. This practice was a simple and familiar one that avoided the constant surveillance and frequent decisions that are necessary with managed floating. Another advantage of the practice is that trade denominated in the intervention currency, which is frequently the currency of the major trading partner, is conducted at a stable exchange rate. Moreover, stable relationships are maintained among currencies that are pegged to the same intervention currency. Movements in the exchange rates between these currencies and currencies other than the intervention currency fluctuate with the changes in exchange rates between the intervention currency and the other currencies.

Fluctuations in exchange rates among the major currencies of members produce effects on the domestic economies of other members that cannot be avoided. In order to moderate these effects, practices have been developed by which the exchange rates for a currency are determined by reference to some average or composite of major currencies. Most frequently, these composites have been based on the pattern of trade of the issuer of the currency. A few members, however, have pegged their currencies to the SDR, which means, as will be seen from the discussion in the subsection entitled Valuation of the SDR, below, that they have pegged the rates for their currencies to the rates for 16 currencies according to a specified formula.12 The SDR does not correspond to the pattern of trade of the issuer of any one of the currencies that have been pegged to it, but for most members the SDR conforms more closely to a composite weighted according to imports than does a peg to a single currency.

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