As a manager, you are choosing to do business in two countries: One has a fixed exchange rate, and the other has a floating rate. Which country would you prefer? Why?

As a manager, I will choose to do business in a country that have fixed exchange rate. The fixed exchange rate is a rule used by the central bank or government to draw the country’s currency exchange rate to another country’s currency. Fixed exchange rate has many advantages to investors—some of the benefits of fixed exchange rate include. First, avoid currency fluctuations (Wang et al., 2020). If the currency keeps on shifting significantly, it can create problems for organizations involved in the trade. For instance, if a business is exporting, a significant appreciation in sterling can make its products uncompetitive, making the business go out of the market. Also, if a company depends on imported raw materials, rapid appreciation will increase the cost of imports and reduce the company’s profit margin.

Second, keep inflation low. Country’s that allow their currency exchange rate to diminish may create inflationary pressure (Yanamandra, 2015). Deflation of a currency can create inflation due to an increase in AD, which makes import costs rise, and organizations have few incentives to reduce costs. A fixed exchange rate means businesses have an incentive to keep reducing the prices to remain competitive. It is believed fixed exchange rate will lower inflationary anticipation. Third, current account, a swift increase in the exchange rate can significantly affect manufacturing organizations that export; this can cause deterioration of the existing account. Lastly, Stability encourages investment. The uncertainty of currency exchange rate fluctuations may reduce the incentive for businesses to invest in export capacity. A fixed exchange rate creates greater certainty and encourages businesses to invest. The floating currency exchange rate causes a lack of discipline in the national economy. There is a higher possibility that a nation can ignore domestic inflation with the floating exchange rate until a disaster occurs.

References

Wang, J., Han, X., Huang, E. J., & Yost-Bremm, C. (2020). Predictability in international stock returns using currency fluctuations and forward rate forecasts. The North American Journal of Economics and Finance, 52, 101108.

Yanamandra, V. (2015). Exchange rate changes and inflation in India: What is the extent of exchange rate pass-through to imports?. Economic analysis and policy, 47, 57-68.