In Chapter 15, we analyzed the case of flexible exchange rates. But not all exchange rates are flexible. Consider the case of Poland. In 1990, Poland had a fixed exchange rate, with the zloty pegged to the U.S. dollar. However, inadequate foreign reserves forced a change. In 1991, the Polish government set up a crawling peg, but expanded the peg to include a “basket” or collection of a number of currencies, including the U.S. dollar. The crawling peg involved a monthly devaluation against the currency basket at a rate of 1.8 percent. This too proved unworkable at times, and larger devaluations were required in 1992 and 1993. In 1995, the Polish government changed the crawling peg to a crawling band against the currency basket of ±7.0 percent. This band was widened to ±10.0 percent and then to ±12.5 percent in 1998. In 1999, the currency basket was changed to reflect the introduction of the European Union euro. Finally, in 2000, the zloty began to float.

We cannot get too far in understanding such complicated economic histories as that of Poland without understanding nonflexible exchange rate regimes, including fixed exchange rates. Developing such an understanding is the purpose of this chapter. We begin by defining a number of alternative exchange rate regimes, placing them on a continuum between “fixed” and “flexible.” Next, we focus on the case of fixed exchange rates and examine the various ways that balance of payments adjustment can occur under this regime. We then consider the role of interest rates and credibility in maintaining fixed exchange rate regimes. Finally, we consider what has come to be known as the impossible trinity in the field of international finance. An appendix discusses monetary policies under fixed exchange rate regimes. As such, it follows on the appendix of Chapter 15.