Context:
RBI will retain its policy of currency market intervention to check excessive volatility as part of its overall strategy for macro-economic management, amid reports indicating a more “flexible approach”.
The RBI is adhering to the policy of entering the currency market for controlling the extreme volatility in currency.
Currency Volatility
Currency volatility refers to the fluctuation of the value of a currency over time. It is also termed foreign exchange (forex) volatility. The fluctuation and deviation in the values of a currency over others results in trade and investment and brings about instability to the economy of a country.
- How is currency volatility measured?
- Standard deviation
- The standard deviation of a currency’s change in exchange rate over a given period is a measure of its volatility.
- Dispersion of exchange rate changes
- Volatility is measured as the dispersion of exchange rate changes around the mean.
- Standard deviation
- What causes currency volatility?
- Geopolitical factors
- Wars, riots, uprisings, and other civil unrest can cause volatility.
- Trade wars
- Trade wars between countries can cause volatility due to the large number of transactions involved.
- Economic Factors
- Inflation rate, interest rate, and balance of payments lead to the deviation in the rate of exchange
- Monetary policy
- The interest rates are regulated by the central banks to tackle the inflation rate and slow-down of the economic activity
- Geopolitical factors
- What are the effects of currency volatility?
- Economic growth
- Exchange rate volatility can be a source of both opportunities and challenges for an economy of a country
- Companies with inadequate hedging programs
- Companies with inadequate hedging programs may feel the impact of volatility on their performance.
- Cross-border trading
- One who takes advantage of currency volatility involves consumers participating in cross-border trade.
- Opportune time for profit
- Actually, there’s more opportunity of making a profit from volatile currency exchange if you put your strategy appropriately.
- Economic growth
