What is a currency band?
A currency band is a currency regulation imposed by the government or a central bank that specifies both the minimum and maximum rates for your home currency in relation to other currencies.
- A currency band is the range of upper and lower limits of an acceptable exchange rate in which your currency fluctuates.
- The currency band fluctuates between these two specified prices, but when these limits are reached, the currency price switches to a fixed rate.
- A recent example of a valid currency band is the RMB.
Understand currency bands
The currency band fluctuates between these two specified prices, but when these limits are reached, the currency price switches to a fixed rate.
Basically, a currency band can be understood as a managed exchange rate system, which is a hybrid of a fixed exchange rate system and a floating exchange rate system. A country fixes a range of values in which its currency can fluctuate or move, and a limit to return to a fixed exchange rate. This allows some revaluation, but the price of the currency is usually stable within the band.
For example, a central bank can return a currency to the mid-rate of an established band. However, if this move is too difficult or difficult, the bank will readjust the band to create a new target exchange rate.
Currency bands help impose discipline on monetary policy, but they also provide flexibility in the event of a large inflow or outflow of capital. Monetary policy in a country with a currency band depends on the behavior of the reference currency, as the central bank must make decisions that change the value of the local currency in a manner that is close to the change in the value of the reference currency. ..
This band is used by the government to stabilize the currency during times of exchange rate fluctuations. Currency bands discourage speculation from forex traders seeking to profit from changes in exchange rates. However, investors can use the band as a reference point to predict future movements in exchange rates.
Currency band example: China and RMB
The RMB is an example of a currency that moves within a currency band. China has tightly controlled monetary policy, including regulating its original day-to-day movements in the foreign exchange market.
Since the introduction of the currency band in 2005, the renminbi (CNY) band has steadily expanded against the US dollar over the years, starting at +/- 0.3% and finally settling at +/- 2%. I did. It was introduced in March 2014 and is still valid as of September 2021. This allowance for expanding and adjusting the currency band is known as the crawl peg.
For example, a 2% band means that the yuan is allowed to move up and down 2% daily against the US dollar (reference rate). The one-day limit will curb the value of the currency and make China’s exports cheaper.