Which statement describes a floating exchange rate?

Which statement describes a floating exchange rate?

• A. The government sets the rate and does not allow market forces.
• B. The rate is pegged to Gold.
• C. The rate is fixed to a currency.
• D. The rate is determined by supply and demand in the foreign exchange market.

Answer: (D)

A floating exchange rate is one that is allowed to move based on market forces. In this setup, the rate is determined by supply and demand in the foreign exchange market, so currency values fluctuate with changes in trade, investment, and speculation. When more people want a currency or its supply tightens, its value rises; when demand falls or supply increases, its value falls. This contrasts with fixed systems, where authorities set and defend a specific rate, or peg a currency to gold or another currency. The statement that the rate is determined by supply and demand in the foreign exchange market best describes a floating regime.

A floating exchange rate is one that is allowed to move based on market forces. In this setup, the rate is determined by supply and demand in the foreign exchange market, so currency values fluctuate with changes in trade, investment, and speculation. When more people want a currency or its supply tightens, its value rises; when demand falls or supply increases, its value falls. This contrasts with fixed systems, where authorities set and defend a specific rate, or peg a currency to gold or another currency. The statement that the rate is determined by supply and demand in the foreign exchange market best describes a floating regime.