Currency Band
What Is Currency Band?
A currency band is a monetary regulation imposed by a government or central bank that determines both a price floor and ceiling for its national currency corresponding to different currencies.
Understanding Currency Band
A currency band permits the currency to float between these two determined prices, yet after arriving at those limits the currency price will switch to a fixed rate.
Fundamentally, a currency band can be understood as a managed exchange rate system that is a hybrid of a fixed exchange rate and a floating exchange rate. A country fixes a scope of values at which its currency can float or move inside, and the limits where it will return to a fixed exchange rate. This takes into account some revaluation, yet ordinarily settles the currency's price back inside the band.
For example, the central bank can take the currency back to the mid-point rate of the laid out band. In any case, in the event that this move is too troublesome or testing to do, the bank will realign the band to make another target exchange rate.
A currency band assists with forcing discipline on monetary policy, yet at the same time gives flexibility on the off chance that the country is hit by big capital inflows or outflows. The monetary policy of a country with a currency band is dependent on the behavior of its reference foreign currency in light of the fact that the central bank must pursue choices that make the value of the nearby currency change in a manner that approximates changes in the value of the reference currency.
The band is utilized by a government to settle its currency during times of exchange rate volatility. Currency bands deter speculation from forex traders hoping to profit from changes in exchange rates. Notwithstanding, investors can involve the band as a reference point for expectations of future developments in the exchange rate.
Currency Band Example: China and the Yuan
The Chinese yuan is an illustration of a currency that moves inside a currency band. China has a stringently controlled currency policy that includes managing the daily developments of the yuan on the forex market.
Since it presented a currency band in 2005, the country has consistently permitted the band for the Chinese Yuan (CNY) to broaden against the U.S. dollar throughout the long term, starting at +/ - 0.3% lastly settling at +/ - 2%, which was presented in March 2014 and stays in effect as of September 2021. This allowance to broaden and change the currency bands is known as a crawling peg.
The 2% band, for instance, means that the yuan is permitted to go up or down 2% against the U.S. dollar (its reference rate) every day. The daily limit smothers the value of the currency and makes Chinese exports less expensive abroad.
Features
- A currency band is a scope of upper and lower acceptable exchange rates for a national currency to vary between.
- A recent illustration of a working currency band is the Chinese Yuan.
- A currency band permits the currency to float between these two indicated prices, yet after arriving at those limits the currency price will switch to a fixed rate.
