A Managed Float refers to the practice by central banks of maintaining their currency’s exchange rate within an acceptable “band” or range. Unlike a free float, where the exchange rate is determined solely by market forces, or a fixed exchange rate, where the rate is pegged and unchanging, a managed float allows for adjustments through the central bank’s active interventions. These interventions are accomplished by buying and selling the currency in question to stabilize its value.
Mechanism of Managed Float
Central banks intervene in the foreign exchange market to influence the currency’s value. This is achieved through:
- Buying Currency: If the currency depreciates below the acceptable band, the central bank buys its currency using foreign reserves, causing an increase in demand and thereby raising its value.
- Selling Currency: Conversely, if the currency appreciates too much, the central bank sells its own currency, increasing supply and lowering its value.
Managed Float vs. Dirty Float
Managed Float is sometimes used interchangeably with ‘Dirty Float’, although the latter has a more negative connotation, implying manipulation or excessive intervention in the currency markets for political or economic gain.
Historical Context
Managed floats became more common after the collapse of the Bretton Woods system in 1971, which introduced more flexible exchange rates compared to the previously prevalent fixed exchange rate systems.
Examples
Several countries adopt managed float systems to protect their economies:
- India: The Reserve Bank of India intervenes to curb excessive volatility in the rupee.
- China: While more stringent in the past, China’s managed float has seen increasing flexibility over the years.
Applicability
Benefits
- Stability: Managed floats provide more stability than pure free floats, reducing exchange rate volatility.
- Control: Governments retain the ability to influence their economy, combating potential inflation or deflation.
Drawbacks
- Resource Intensive: Maintaining substantial foreign reserves for intervention can be resource-consuming.
- Market Distortion: Frequent interventions can distort market signals, leading to inefficient resource allocation.
Related Terms
- Free Float: Exchange rate determined solely by market forces without any intervention.
- Fixed Exchange Rate: A currency’s value tied to another currency or basket of currencies.
- Currency Peg: A type of fixed exchange rate where a currency’s value is pegged to another major currency.
FAQs
Why do central banks use managed float?
How often do central banks intervene in managed floats?
Is managed float better than a fixed exchange rate?
Summary
Managed Float is a crucial economic strategy enabling central banks to keep their currency within an acceptable range through market interventions. Balancing the benefits of stability and control against the drawbacks of resource intensity and potential market distortions, it remains a widely adopted exchange rate policy in many countries.
In compiling this entry, we aim to offer a comprehensive, detailed, and well-structured definition. By covering definitions, mechanisms, historical context, and applicability, while also addressing FAQs and related terms, we provide a complete understanding of the concept of Managed Float.
