Pegged Currencies

There are a large number of countries that have their currency pegged to the us dollar.
They are pegged to the dollar because in 1944 (Bretton Woods Agreement) the dollar became the world's reserve currency.
The reason a country will do this is to keep their currency in line with the dollar.
When the dollar rises and falls, so does their currency.

How does it work ?

A country will have a fixed exchange rate with the dollar.
In fact because the value of the dollar changes frequency it is actually pegged to a defined dollar range.
If the countries exchange rate falls below this range, they will buy dollars (typically US treasuries).
If the countries exchange rate rises above this range, they will sell dollars (typically US treasuries).
A country with a pegged currency maintains the peg by buying and selling US treasuries.

What countries have pegged currencies ?

The best example is China and the main reason for doing this is to keep their exports cheaper than US products.
China is the world's largest exporter and 17% of China exports go to the US.
These exports are sold in dollars and deposited into their local banks in exchange for yuan.
These dollars makes their way back to china's central bank which then uses them to buy US treasuries.
This is turn strengthens the dollar and lowers the value of the yuan making their exports cheaper.
The reason that China does this is to create growth and to keep its population in jobs.

Hong Kong

Yen Carry Trade

In September 2010 the Japanese government devalued its currency by selling yen. This reduced demand and slowed growth.
The yen is seen as a safe currency and because of that the value has been slowly increasing because people buy yen because it is a safe currency.
FX traders borrowed japanese yen at 0% interest rate and invested in dollars (and other currencies) that were paying higher interest rates.
This type of trade disappeared when the Federal reserve reduced interest rates to 0.

New - International Monetary Fund

What are Foreign Exchange Reserves ?

Special Drawing Rights

Although not a currency in its own right, it represents a claim to currency that is held by IMF member countries.
They can only be exchanged for a currency that is defined in its basket.
This in theory could provide an alternative to the world's reserve currency (US dollar)

Often abbreviated to SDR or XDR and created in 1969.
After the collapse of the Bretton Wood System in the early 1970s the value of this asset is defined by a basket of four currencies.
US dollar, Euro, British Pound, Japanese Yen
The basket is weighted and is re-evaluated every 5 years.

China - unpegged June 2010
Yen-Dollar Accord - 1984

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