... advantages of a floating exchange rate system are the exchange rate automatically adjusts so that supply of the currency equals demand. It has to be taken into account that this will neutralize any balance of payments deficit or surpluses. If imports rise, for example, the supply of the domestic currency increases leading to a fall in the exchange rate. Therefore, if the domestic currency falls, there will be a rise for domestic produced goods and services by foreign countries consequently a rise in exports which will automatically eliminate deficit. Another advantage of this free floating exchange rate is that there is no need for the central bank to keep foreign reserves. Plus, the Government can pursue its own domestic policies for example the adjustment of interest rates becomes easier. The freely floating exchange rate can nevertheless create instability in which deters investment and trade. A disadvantage of the free ...

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