Exchange control

Exchange rate systems

• Fixed
• Freely floating
• Managed float
• pegged
 Exchange control?
 Restrictions on conversion of a country's currency for
another, imposed by its government in an attempt to
improve its balance of payments
position.
• controls imposed by a government on the
purchase/sale of foreign currencies by residents or
on the purchase/sale of local currency by
nonresidents.
Common foreign exchange controls include:

• Banning the use of foreign currency within the

country
• Banning locals from possessing foreign currency
• Restricting currency exchange to government-
approved exchangers
• Fixed exchange rates
• Restrictions on the amount of currency that may
be imported or exported
 Objectives of exchange control
• To conserve foreign exchange
• To correct balance of payments
• To maintain exchange value
• To prevent the flight of capital
• To protect domestic industry
• To encourage essential imports
 Objectives of exchange control(cont..)

• To discourage conspicuous consumptions

• To enable the government to repay foreign
loans
 Methods of exchange controls
• Unilateral methods
• Bilateral methods
unilateral methods
 Foreign exchange rationing
 Foreign exchange rationing: all the peoples
within its jurisdiction are required to buy
from and sell to a special agency, such as
central bank or exchange control board
 To pay for essential imports
 To meet external debts
 To prevent flight of capital
Foreign exchange rationing(cont..)
 depending upon the severity of balance of
payments system of rationing may be partial
or complete
 if position is severe then system will be more
centralized and proceeds of all international
transactions be sold to one central agency
Foreign exchange rationing(cont..)
 if position is moderate then it may require
that only certain percentage or the proceeds
of defined classes of transactions are sold to
any one or more specific agencies
 in partial rationing system both controlled
market and free market operated side by side
 Regulating bank rate
Is the bench mark which brings change in all
other rates of interest
 change in interest rate affects the flow of
foreign capital
 when internal interest rates rise, the inward
flow of foreign capital increases which further
bring increase in the demand of domestic
currency and ultimately leads to appreciation in
the value of domestic currency
 Regulating bank rate(cont…)
 when bank rates are lowered it produces the
opposite results
 Regulating foreign trade
 biggest source of earning and spending
foreign exchange
 by discouraging imports and encouraging
exports the demand and supply of currency
can be channelize, which will lead to
appreciation or devaluation of currency value
 Multiple exchange rates
 country fixes different rates of exchange for
the trade of different commodities or for
transactions with different countries
 Exchange pegging
 establishment of official rates at which the
central agency will buy and sell the foreign
currencies
 the rates so fixed, may be below or above the
normal market rate
 pegging up
 Pegging down
 normally pegging is done when there is violent
fluctuations in exchange rates
 Blocked accounts
 these are bank deposits, securities and other assets
held in controlling country by the people of other
countries
 foreign holders of such accounts would very much
like to convert them into the currency of their own
countries, but if they are permitted to do so
 if they are permitted this it could cause severe
problem of balance of payment for controlling
country
 Blocked accounts(cont…)
 therefore the balances held in blocked
accounts regulated in number of ways
Interests and dividends in blocked accounts
have been permitted for investment in new
long term securities
 balances in blocked accounts are permitted
for investment in other kinds of property
within the blocking countries
 Blocked accounts(cont…)
 some countries permit the use of blocked
accounts for partial payment of goods
exported
 holders of blocked accounts generally
authorized to use them in meeting expenses
while travelling as tourist into the blocking
country or to sell them to others who plan to
use them for tourist expenditure there
 Exchange stabilization fund
• This fund is to stabilize the exchange rate of
national currency through the sale and
purchase of foreign currencies
Bilateral/multi lateral
methods
 Payment agreement
• Agreement between a debtor country and
creditor country for the repayment of
principal and interest by the debtor to the
creditor
• Creditor country commits to refrain from
imposing restrictions on imports from debtor
country so as to enable the debtor country to
increase its exports to the creditor
 Payment agreement(cont…)
• Debtor country takes necessary steps to
encourage exports and discourage imports
from creditor country
 Clearing agreement
• Device for direct bilateral exchange of goods
on national scale
• Under this agreement importers make
payments in domestic currency to the clearing
account and exporters obtain payment in
domestic currency from the clearing fund
• In such way the need for foreign exchange
does not arise except at the time of settling
the net balance between the trading countries
• Each country stipulated about the quantity of
buying and selling In advance within a given
period of time
• An official exchange rate is also settled
between two which could be different with
other trading countries
 Private compensation agreement
• Closely resemble barter
• A business firm in one country is required to
equalize its exports to the other country with
imports from that country
• So that at the end neither deficit nor surplus
on both sides
 Standstill agreement
• Facilitating debtor country to pay for imports
at later date
• During the moratorium period importer and
debtor both make payments in home currency
to an authorized bank