Relationship Between Inflation and Exchange Rate Essay Example
The relationships between inflation and exchange rate
The existence of linkages between the level of the exchange rate and the rate of inflation has been more commonly established in the theoretical literature. Using this definition, we can show the link between inflation and exchange rates. What is exchange rate and what is inflation? An exchange rate is the value of one currency expressed in terms of another currency. Exchange rates are expressed as a comparison of the currencies of two countries. There are many theories about the causes and definitions of inflation, but generally we can say that the inflation is a rise in the general level of prices of goods and services in an economy over a period of time.
Exchange rates have a very important role in a country`s level of trade and it is critical to every free market economy worldwide. It can be high or low. Also we have three main divisions and they are: fixed, floating and managed exchange rate. Some of them influence the inflation directly. If we take the fact that inflation is the consequence of other factors, and if we continue exploring different scenarios of this kind of relationship, we can see how significant exchange rate changes can be as factors affecting inflation. It is well known that if we have devaluation (when the value of a fixed exchange rate is lowered) of the fixed exchange rate it may result as an increase in inflation. Also there is a case when we have revaluation (when the value of the exchange rate is raised) of the fixed exchange rate where it may act as a decrease in inflation. Also in floating exchange rate if the policymakers keep the level of the rate depreciated (when the value of the exchange rate falls) or appreciated (when the value of the exchange rate rises) for a longer time may lead to a sustained increase or decrease in inflation. Few questions in international economics have aroused more debate than the choice of exchange rate regime. Should a country fix the exchange
The existence of linkages between the level of the exchange rate and the rate of inflation has been more commonly established in the theoretical literature. Using this definition, we can show the link between inflation and exchange rates. What is exchange rate and what is inflation? An exchange rate is the value of one currency expressed in terms of another currency. Exchange rates are expressed as a comparison of the currencies of two countries. There are many theories about the causes and definitions of inflation, but generally we can say that the inflation is a rise in the general level of prices of goods and services in an economy over a period of time.
Exchange rates have a very important role in a country`s level of trade and it is critical to every free market economy worldwide. It can be high or low. Also we have three main divisions and they are: fixed, floating and managed exchange rate. Some of them influence the inflation directly. If we take the fact that inflation is the consequence of other factors, and if we continue exploring different scenarios of this kind of relationship, we can see how significant exchange rate changes can be as factors affecting inflation. It is well known that if we have devaluation (when the value of a fixed exchange rate is lowered) of the fixed exchange rate it may result as an increase in inflation. Also there is a case when we have revaluation (when the value of the exchange rate is raised) of the fixed exchange rate where it may act as a decrease in inflation. Also in floating exchange rate if the policymakers keep the level of the rate depreciated (when the value of the exchange rate falls) or appreciated (when the value of the exchange rate rises) for a longer time may lead to a sustained increase or decrease in inflation. Few questions in international economics have aroused more debate than the choice of exchange rate regime. Should a country fix the exchange