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Currency Standards

Currency standards are the typical means for fixing a currency at a set rate nowadays. A Currency Standard means that the value of a currency is pegged to a stronger, more internationally recognized currency, like the Euro or the Dollar. These Currency Standards are similarly known as reserve currency standards.

Within the world reserve currency system, single national currencies actually assume the important standard, or role, that gold always carried for hundreds of years in the gold standard. Another way of putting this is that a nation would fix the rate of its proprietary currency to so many units against another country’s currency. As an example, Great Britain might choose to fix its British Pound Sterling currency to the Euro at a real exchange rate of one pound equals one point twenty-five Euros. In order to keep this fixed rate of exchange, Britain’s central bank, the Bank of England, would have to always be prepared to offer Euros for Pounds, or Pounds for Euros, upon demand for this set rate of exchange. The principal way that the Bank of England would affect this would be to keep Euros in its reserves against a day when a greater demand existed for Euros to be exchanged for Pounds on the world FOREX markets.

These currency standards stand in contrast to the gold standard. Under the long held, incredibly stable period of the gold standard, central banks instead held gold to back up and exchange against their own currency. Using the reserve currency standard, the same central banks instead keep a stockpile of the chosen reserve currency on hand. In whichever case, the reserve currency will be the one to which a given nation fixes its own currency.

The majority of nations that decide to fix their exchange rates will peg to one of two types of currencies. You might see them choose one of the main currencies utilized in international transactions for settlement. Alternatively, they could elect to fix their currencies to that of one of their major trading partners, which would also make sense for settlement purposes.

Because of this, you see many countries around the world peg their national exchange rate to the United States dollar, since it still proves to be the currency that is most widely held and traded around the world. As another fixing choice, the Euro is increasingly utilized for pegs. Fourteen different African countries which had all been French colonies in the past had set up the CFA, or colonies of French Africa, Franc zone. When they did this, they fixed their new CFA Franc to the French Franc.

After the French abandoned their Franc in favor of the newer continent wide Euro in 1999, the CFA Franc became pegged to the Euro. Another example is the Common Monetary Area of South Africa. Participating in this are Namibia, Swaziland, and Lesotho. These nations fix their currency against the South African Rand, the powerhouse currency of the South African continent, and their biggest trading partner by far.

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