What is a fixed (pegged) exchange rate?

What is a fixed (pegged) exchange rate?

• A. The currency freely floats without government intervention.
• B. The exchange rate is determined by random market forces.
• C. The currency is pegged to a commodity index.
• D. The government ties the value of its currency to another major currency or a basket of currencies.

Answer: (D)

A fixed (pegged) exchange rate means a country fixes its currency's value to another currency (or to a basket of currencies) and the central bank actively maintains that rate, buying or selling currency as needed to keep it steady. This stabilization aims to reduce exchange-rate volatility for trade and investment, though it often requires large foreign reserves and limits on monetary autonomy. The option describing tying the currency to another major currency or a basket fits this definition exactly. The other descriptions describe a floating system (no intervention, value determined by market forces) or a peg to a commodity index, which is a different, less common setup.

A fixed (pegged) exchange rate means a country fixes its currency's value to another currency (or to a basket of currencies) and the central bank actively maintains that rate, buying or selling currency as needed to keep it steady. This stabilization aims to reduce exchange-rate volatility for trade and investment, though it often requires large foreign reserves and limits on monetary autonomy.

The option describing tying the currency to another major currency or a basket fits this definition exactly. The other descriptions describe a floating system (no intervention, value determined by market forces) or a peg to a commodity index, which is a different, less common setup.