Pegging

• Pegging: Pegging is a method of stabilizing a

country's currency by fixing its exchange rate to that
of another country.

• A pegged exchange rate occurs when one country

fixes its currency’s value to the value of another
country’s currency.
How Currency peg works

• Suppose Nepal wants to peg its currency to India,

meaning it wants the Nepal Rupee value to move at
the same rate as the Indian Rupee.
How Currency peg works

• If the Nepal Rupee value falls relative to the Indian Rupee,

Nepal can use foreign reserves, such as euros, to buy Nepal
Rupee and remove them from the market.

• With fewer Nepal Rupee available, demand goes up, and its
value also increases.

• Nepal can sell its currency if their value rises relative to the Ind
Rupee to increase the supply of pesos until their value falls to
match.
Pegging (Pros and Cons)

• A nation with low production costs

• Another country with a stronger currency.

• A richer, nation may choose to produce its goods in a less nation A,
where production costs are smaller.

• When those nation A translate their earnings into their domestic

currencies, they make a larger profit, creating a win/win situation for
both countries.
Pegging (Pros and Cons)

• It protects a nation from volatile swings in the foreign exchange

rate.
• Low risk

• No need to hedge FX

• No Uncertainty means more trade.

Pegging (Pros and Cons)

• Disadvantages
• Large amount of reserves a central bank has to maintain to make a
pegged exchange rate work.

• Those large reserves can spark higher inflation.

• which causes prices to rise, creating problems for a country’s economic

stability.

• The central bank must also buy or sell its currency on the open market
to keep its value in line with the pegged nation’s currency.