Crawling Peg

The big currencies you think about when you think about currencies (the euro, the dollar, the yen) are free floating. Their central banks might step in to manipulate value somewhat (Bank of Japan, we’re looking at you), but for the most part, the market decides exchange rates. There’s no legal structure in place to control the exchange rate.

Not all currencies work this way. Some currencies are “pegged,” meaning their value is tied to something else.

Think of the gold standard in the old days. A dollar was worth a certain amount of gold. The plan was to control inflation by tying the currency to something stable (like the amount of gold).

These days, the most common peg goes to the U.S. dollar. Say you run the central bank of some emerging economy. You want to peg your currency to something in order to keep it stable. So you pick the currency of the biggest economy in the world. You pick the U.S. dollar.

Some currencies exist in a mid-range between pegged and free-floating. That grey area is where crawling pegs come in. These currencies are allowed to move, but only a little at a time.

Trading on individual days can only push the rate so far. The idea is to give some of the benefit of a free float, but with some stability and control against a sharp market move. Nicuragua and Vietnam have crawling pegs, and China’s currency is essentially one.