Explain the Concept of a Currency Board

Question

Examlex · Accepted Answer

The Answer is A country that introduces a currency board commits itself to converting its domestic currency on demand into another currency at a fixed exchange rate.To make this commitment credible,the currency board holds reserves of foreign currency equal at the fixed exchange rate to at least 100 percent of the domestic currency issued.Under this arrangement,the currency board can issue additional domestic notes and coins only when there are foreign exchange reserves to back it.This limits the ability of the government to print money and,thereby,create inflationary pressures.Under a strict currency board system,interest rates adjust automatically.
Since its establishment in 1983,the Hong Kong currency board has weathered several storms.This success persuaded several other countries in the developing world to consider a similar system.Argentina introduced a currency board in 1991 (but abandoned it in 2002)and Bulgaria,Estonia,and Lithuania have all gone down this road in recent years (seven IMF members have currency boards).Economic collapse in Argentina in 2001 and the subsequent decision to abandon its currency board dampened much of the enthusiasm for this mechanism of managing exchange rates.

Explain the Concept of a Currency Board

Definitions: