Can You Explain The Term Floating And Flexible Exchange Rate System?

Flexible exchange rate is one in which the foreign exchange rate is determined by the market forces of supply and demand for foreign exchange. In the freely floating exchange rate system, there is no intervention on the part of the government of the country to determine the exchange rates. The government is on the sideline. It allows the foreign exchange to determine the exchange rate by the forces of supply and demand for the foreign currency. We can say that in the flexible exchange rate system, the exchange rates fluctuate in response to market forces.

The disequilibrium in the balance of payments in automatically adjusts in the freely floating exchange rates. For example, Pakistan has no assess of import from France. Pakistani's import will naturally buy France to pay for their imports. The price of France will be driven up in terms of pak rupee. The French goods become more expensive to Pakistani's. The goods produced in Pakistan become cheaper to France.

The export from Pakistan to France begins to rise. The French purchase will continue till the exports and imports between the two countries are restored to balance. We, thus, find that freely floating exchange rates tends to automatically correct disequilibrium in the balance of payments at the international level.