International Journal of Accounting Research

Exchange Rate Mechanisms and Global Economic Stability

Olivia Spencer Department of Finance, Westfield University, Sydney, Australia

Received: 10-Nov-2025, Manuscript No. IJAR-25-30705; Editor assigned: 13-Nov-2025, Pre QC No. IJAR-25-30705 (PQ); Reviewed: 27-Nov-2025, QC No. IJAR-25-30705; Revised: 04-Dec-2025, Manuscript No. IJAR-25-30705 (R); Published: 11-Dec-2025, DOI: 10.35248/2472-114X.25.13.438

Description

Exchange rates are a central element of international finance, influencing trade, investment and economic stability across countries. They represent the value of one currency relative to another and fluctuate according to supply and demand conditions, economic performance and policy decisions. Understanding exchange rate mechanisms is essential for businesses, governments and investors who operate in the global economy, as changes in currency values can affect profitability, competitiveness and financial planning. Floating exchange rates are determined by market forces without direct government intervention. In these systems, currencies fluctuate in response to trade balances, capital flows, interest rate differentials and investor sentiment. A stronger domestic currency reduces the cost of imported goods and services, but it may also make exports less competitive, potentially affecting domestic industries and employment. Conversely, a weaker currency can boost exports by making them cheaper in international markets, while increasing the cost of imported goods and potentially contributing to inflation. Market participants closely monitor economic indicators, central bank announcements and geopolitical events to anticipate currency movements and adjust investment strategies accordingly.

Fixed exchange rate systems involve the pegging of a country’s currency to another stable currency or a basket of currencies. Governments or central banks maintain the peg by buying or selling their own currency in exchange for the anchor currency, stabilizing trade and investment relationships. This approach can reduce uncertainty for exporters and importers and encourage foreign investment. However, maintaining a fixed rate requires sufficient foreign exchange reserves and may limit a country’s ability to respond to domestic economic shocks. Persistent trade imbalances or capital outflows can place pressure on the peg, occasionally leading to adjustments or the abandonment of the fixed system. Managed float systems combine elements of floating and fixed exchange rates, allowing market forces to influence the currency while permitting periodic intervention by monetary authorities. Central banks may buy or sell currencies to smooth excessive volatility, control inflation or support domestic economic objectives. These interventions aim to balance the benefits of market-determined exchange rates with the need for stability, particularly in economies with significant exposure to external shocks. The effectiveness of managed interventions depends on transparency, credibility and the ability of authorities to act decisively.

Global economic stability is heavily influenced by exchange rate dynamics. Sudden and large currency fluctuations can disrupt trade flows, investment decisions and financial markets. For example, sharp depreciation can increase the burden of foreigndenominated debt, strain corporate balance sheets and trigger inflationary pressures. Appreciation can make exports less competitive, reduce profits for exporters and slow economic growth. Central banks and policymakers closely monitor exchange rate movements to identify emerging risks and implement measures that mitigate potential disruptions to financial stability. Currency crises provide important lessons for managing exchange rate systems. Events such as sudden speculative attacks, rapid capital flight or prolonged misalignment between currency value and economic fundamentals can destabilize economies, requiring emergency measures by governments or international institutions. Policy responses may include adjustments to interest rates, capital controls, reserve management and negotiation with external creditors. These experiences highlight the need for sound macroeconomic policies, transparent fiscal management and coordination among countries to reduce vulnerabilities and maintain investor confidence. The interaction between exchange rates and international trade is another critical dimension. Currency fluctuations directly affect the cost of goods and services traded across borders, influencing trade balances and competitiveness. Companies engaged in export-oriented industries must develop strategies to manage currency risk, including forward contracts, hedging instruments and pricing adjustments. Similarly, importers may use financial instruments to stabilize costs and protect profit margins. Exchange rate management is thus a strategic consideration for firms operating in the global marketplace.

In summary, exchange rate mechanisms are integral to international finance, influencing trade, investment and economic stability. Floating, fixed and managed float systems each offer advantages and limitations and policymakers must balance domestic objectives with global economic realities. Effective exchange rate management requires understanding market forces, monitoring capital flows, implementing responsive policies and coordinating with international partners. By maintaining stability in currency markets, countries can support trade, investment and overall economic growth while minimizing the risk of financial disruptions.