Understanding Currency Band and Its Role in Global Finance

A currency band, also known as a target zone, is a currency regime where a country's exchange rate is pegged to a specific value within a narrow range, usually plus or minus 1% of a central rate.

In a currency band system, the central bank intervenes in the foreign exchange market to prevent the exchange rate from deviating from the target zone.

This system was first introduced by the European Monetary System (EMS) in 1979 and was used by several European countries, including the UK, France, and Germany.

The EMS currency band was a key factor in the creation of the euro currency.

A currency band is a managed exchange rate system that's a hybrid of a fixed exchange rate and a floating exchange rate. It allows a country's currency to float between two specified prices, but switches to a fixed rate when those limits are reached.

The currency band is essentially a range of values at which a country's currency can float or move within, and the limits where it will revert to a fixed exchange rate. This helps to stabilize the currency's price back within the band.

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A country's central bank can bring the currency back to the mid-point rate of the established band, but if this move is too difficult, the bank will realign the band to create a new target exchange rate.

The monetary policy of a country with a currency band is dependent on the behavior of its reference foreign currency, because the central bank must make decisions that cause the value of the local currency to change in a way that approximates changes in the value of the reference currency.

Currency bands discourage speculation from forex traders looking to profit from changes in exchange rates, but investors can use the band as a reference point for expectations of future movements in the exchange rate.

A currency band is a range of upper and lower acceptable exchange rates for a national currency to fluctuate between.

This system allows the currency to float between these two specified prices, but upon reaching those limits the currency price will switch to a fixed rate.

The Chinese Yuan is a recent example of a working currency band.

Here are the key features of a currency band:

A currency band is a managed exchange rate system that's a hybrid of a fixed exchange rate and a floating exchange rate.

It allows a country to fix a range of values at which its currency can float or move within, and the limits where it will revert to a fixed exchange rate.

This system helps to stabilize the currency's price back within the band, making it a useful tool for governments to manage exchange rate volatility.

The central bank can bring the currency back to the mid-point rate of the established band if needed.

However, if this move is too difficult, the bank will realign the band to create a new target exchange rate.

A currency band helps to impose discipline on monetary policy, but still provides flexibility if the country is hit by big capital inflows or outflows.

The monetary policy of a country with a currency band is dependent on the behavior of its reference foreign currency.

Currency bands discourage speculation from forex traders looking to profit from changes in exchange rates.

Investors can use the band as a reference point for expectations of future movements in the exchange rate.

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Central banks play a crucial role in maintaining the stability of currency bands. They can intervene in the foreign exchange market to prevent excessive fluctuations in exchange rates.

To stabilize the currency band, central banks can use monetary policy tools, such as raising interest rates to attract foreign investors and increase the value of the currency. This can be seen in the example of the British pound, which was devalued in 1967 to remain within its currency band.

Central banks can also use foreign exchange reserves to buy or sell currencies and influence exchange rates. For instance, the US Federal Reserve has used its foreign exchange reserves to intervene in the foreign exchange market and prevent a sharp decline in the value of the US dollar.

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China's central bank has implemented a currency band policy for the yuan, which allows it to move within a specified range against the U.S. dollar.

The yuan's currency band was introduced in 2005 and has been gradually widened over the years, starting at +/-0.3% and finally settling at +/-2% in 2014.

This 2% band means that the yuan can fluctuate up or down by 2% against the U.S. dollar each day, suppressing its value and making Chinese exports cheaper abroad.

The crawling peg system allows the currency band to adjust over time, enabling the yuan to move more freely on the foreign exchange market.

China's controlled currency policy has been in effect since 2005, with the central bank regulating the daily movements of the yuan on the forex market.

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Sri Lanka's central bank has raised interest rates to tackle inflation, a crucial step in securing a bailout from the International Monetary Fund.

The bank raised its standing deposit facility rate and standing lending facility rate by 100 basis points each to 15.5 percent and 16.5 percent, respectively.

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This move is aimed at reducing inflation, which soared to 50 percent in February.

The country is awaiting approval of a $2.9bn IMF bailout package, and the central bank Governor P Nandalal Weerasinghe is hopeful of the IMF bailout being approved within this month.

Sri Lanka has been struggling with its worst financial crisis since independence in 1948.

The central bank expects market rates will continue to reduce despite the increase in rates.

The country will gradually move towards a market-driven exchange rate regime.

The bank has been gradually widening the currency band throughout this week, to 10 rupees on either side of the spot rate for Friday.

The island nation's economy has been squeezed by the financial crisis, with growth contracting by an estimated 9.2 percent last year.

Sri Lanka has to restructure its debt before IMF disbursements can begin.

India and the Paris Club of creditors have already given their support for the IMF bailout package.

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