Write a note on ‘Fixed Parity System’ for exchange rates

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The fixed parity system is whereby the central bank sets a fixed exchange rate between your country's currency and that of another. There was a time when western governments complained that China devalued its currency on purpose so as to boost their exports. Since the government sets the exchange rate in this case, this is an example of a fixed parity system. It's very different from a floating rate system. In the latter, it is the market that determines the exchange rate between your country's currency and that of another.

As much as the central bank may try to fix the exchange rate in a fixed parity system, the market also affects this rate. If the central bank just sets the rate and does nothing, a black market may develop and alter the rates. People may avoid banks when doing their exchanges. This is why most central banks buy foreign currency after setting up the exchange rate in a fixed parity system. They do this to stabilize the market and maintain the rates.

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A fixed parity system for exchange rates is one in which monetary exchange rates are set by governments.  This contrasts with the system that is much more common in today's world where exchange rates are set by supply and demand.

In the fixed parity system, governments would set their exchange rate at whatever level they desired.  These rates would only change when the governments decided to change them.  They would not change on a daily basis as supply of and demand for currencies rose and fell.   This system has fallen out of favor because it is seen as excessively rigid and unresponsive to market pressures.

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