Special Drawing Rights and The Floating Rate Era

Special Drawing Rights which is also known as SDRs were created by the IMF as a reserve asset in 1970. Apart from being an international reserve asset it plays the role of the unit of accounting for the transaction between IMF and it’s member countries. Basically the value of SDR was fixed in terms of gold and it is 1 SDR is equal to 0.888671 grams of gold of 35 SDRs being equal to 1 troy ounce of gold.

The currency composition of the new SDR basket is as follows which was introduced in 2000 to solve the actual weighing difficulties of the previous basket went through because many of the currencies in that basket were not actively traded internationally.

US Dollar 45%
Euro 29%
Japanese Yen 15%
Sterling Pound 11%

Floating exchange rate allows a currency’s value to fluctuate according to the foreign exchange market. The most important exchange rate arrangements are;

  • Pure floating rate

The exchange rate of a country’s currency is determined by market considerations like demand and supply.

  • Managed or dirty floating rates

Managed float is a necessity of the monetary authority to maintain a certain level of foreign exchange reserves.

  • Pegging

A country links the value of it’s currency to that of another currency usually that of it’s major trading partner.

  • Crawling pegs

A country makes small periodic changes in the value of it’s currency with the intention of moving to a particular value over a certain period of time.

  • Basket of currencies

Many LDCs used this method. This arrangement is similar to that used for valuation of SDRs.

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