Chapter 4 Fixed, Floating and Managed Exchange Rat...

Lead-in
Syria devalued its currency by 44% on June 17, 2020, announcing a new official exchange rate for the pound amid chaos in the market, hours before new U.S.sanctions aimed at cutting off revenue for Syrian President Bashar Assad’s government took effect.
The sanctions, known as the U.S.Caesar Syria Civilian Protection Act, are the toughest set of measures to be imposed on Syria yet, preventing anyone around the world from doing business with Syrian officials or state institutions or from participating in the country’s reconstruction.The State Department and the Treasury said later Wednesday that 39 Syrian individuals, including Assad and his wife and siblings, had been designated for the new sanctions.
Syria’s already troubled economy has sharply deteriorated, prices have soared and the national currency, the Syrian pound, collapsed in recent weeks, partly because of fears that the sanctions would further isolate the war-ravaged country.Experts say that the new sanctions, which are likely to deter businesses with links to Damascus in neighboring countries and among Assad’s allies, will be a heavy blow to a nation where more than 80% of the people already live in poverty, according to the United Nations.Syrian government officials have called it “economic terrorism.”
The Trump administration says that the sanctions aim to push the Syrian government toward a U.N.-led political solution to the conflict.This week the Syrian currency dropped to a record 3,500 pounds to the dollar on the black market—compared to around 1,000 for $1 at the end of 2019.Some staples such as sugar, rice and medicine are becoming hard to find and some people have started stockpiling food supplies out of fear that their prices could increase.
Opposition-controlled areas run by Turkey-backed rebels have already started relying on Turkish liras, including for the sale of bread, as the Syrian currency continued to slide.Nearly 4 million people live in the areas outside of government control in northwestern Syria.On Wednesday, the Central Bank announced a devaluation of the pound, raising the official exchange rate from 704 to 1,256 pounds to the dollar in an effort to ease the pressure on the black market and encourage the use of official channels for transactions.The price on the black market, according to unofficial social media pages, neared 2,825 pounds for a dollar.The economic meltdown presents a serious challenge for Assad, who survived more than nine years of war but rules over a crumbling infrastructure and ravaged economy.The hardship has triggered new protests in government-controlled areas, including some where angered residents even called for his downfall.
Source: AP News, June 17, 2020, https://apnews.com/a895c6ee20891b363fa181c4f686c727
In this chapter, we examine the definitions and various types of the exchange rate and look at the basic operational differences between fixed and floating exchange-rate regimes.We start by looking at the traditional debate over the two regimes, and the arguments about them.As we shall see, the debate is inconclusive with floating rates having some advantages and disadvantages as compared to fixed rates.The failure of the traditional debate stimulated an alternative method of evaluating these regimes based upon comparing which regime best stabilizes an economy in the face of various shocks, within the context of a formal macroeconomic model.To give a flavor of the insight gained by this more modern approach we use a simple macroeconomic model to evaluate the two regimes.
Although exchange rates have been allowed to float since 1973, authorities have frequently intervened in the foreign exchange market in a bid to influence the exchange rate at which their currency is traded, hence the term “managed” floating.The final part of the chapter looks at the rationale behind discretionary intervention in the foreign exchange market.