ON THE RELEVANCE OF FLOATING EXCHANGE RATE POLICIES; WHAT IS RELEVANCE OF FLOATING EXCHANGE RATE POLICIES?
With globalization, different countries can now trade with each other more easily and more efficiently. Since different countries use different currencies, traders from one country have to convert their currency when trading with other nations. This is referred to as foreign exchange. Foreign exchange, therefore, facilitates trade between two or more countries. The rate at which one currency is exchanged for another is referred to as exchange rate (Makarenko, 2007). There are two principal types of exchange rate policies- fixed or floating. In a country that adopts a floating exchange rate policy, its currency value is decided by the interaction of business forces of supply and demand (Jahjah et al., 2013).
These market forces are determined by a country’s economic position. Canada adopts a floating exchange rate policy. On the other hand, fixed exchange rate refers to a situation where a country’s currency is tied to another currency such as the US dollar. This essay will discuss the relevance of floating exchange rate policies in Canada. The essay will apparently give a precise analysis and an economic perspective on floating exchange policies about the economy of Canada.
Floating exchange rate system in Canada
Before 1950, Canada’s currency exchange rates were set through various exchange rate regimes such as the Bretton Woods system and the International Gold Standard (Makarenko, 2007). Under these exchange policies, the government of Canada would set the value of its currency against other currencies. However, in 1950, after the Second World War, Canada adopted a floating exchange rate regime, that is, it did not tie its currency to that of another trading partner, such as the US dollar, and therefore, did not operate under fixed exchange rate regime. However, in 1962, Canada went back to a fixed rate policy and pegged its currency to the US dollar, only to float it eight years later in 1970 (Bank of Canada, 2006).
The country has, therefore, had as much experience with a floating exchange rate. Nevertheless, the success of the floating exchange rate policy of Canada has continued to elicit debate over the last couple of decades. The market value of the Canadian Dollar has been discussed from the perspective of importers and exporters. In a floating exchange rate, any variation in the exchange rate, whether down or up, will have political impacts. If the rate of exchange appreciates, exporters lose competitiveness in the international market. On the other hand, if the rate of exchange depreciates, importers lose competitiveness in domestic markets (Bank of Canada, 2006).
Demand and supply of the Canadian Dollar
Canada’s floating exchange rate is influenced by demand and supply (Thiessen, 2000). This is in turn affected by the level of business activity in the Canadian economy. Whenever business activities increase- there are more businesses in operation, employing more people and producing more goods and services- …