Currency Substitution

AAA

DEFINITION of 'Currency Substitution'

The use of a foreign currency in transactions in place of the domestic currency. The foreign currency thus serves as a medium of exchange. Countries using flexible exchange rates can experience problems if there is a high rate of currency substitution because they can no longer control all currency types through monetary policy. The higher the rate of currency substitution, the greater the likelihood of monetary disturbances caused by changes in the foreign currency.

INVESTOPEDIA EXPLAINS 'Currency Substitution'

A country may choose to use flexible exchange rates rather than fixed exchange rates in order to mitigate the effect of foreign currency fluctuations on the domestic currency and economy. An increase in the rate of currency substitution means that the domestic economy can fall victim to rapid changes in exchange rates, and thus may experience monetary increased shocks from both home and abroad.

RELATED TERMS
  1. Exchange Rate

    The price of a nation’s currency in terms of another currency. ...
  2. Dollarization

    A situation where the citizens of a country officially or unofficially ...
  3. Foreign Currency Swap

    An agreement to make a currency exchange between two foreign ...
  4. Linked Exchange Rate System

    A system of managing a nation's currency and exchange rate by ...
  5. Monetary Policy

    The actions of a central bank, currency board or other regulatory ...
  6. Pegging

    1. A method of stabilizing a country's currency by fixing its ...
Related Articles
  1. Forex Education

    Currency Exchange: Floating Rate Vs. Fixed Rate

    Baffled by exchange rates? Wonder why some currencies fluctuate while others are pegged? This article has the answers.
  2. Personal Finance

    How The U.S. Government Formulates Monetary Policy

    Learn about the tools the Fed uses to influence interest rates and general economic conditions.
  3. Forex Education

    Dual And Multiple Exchange Rates 101

    Why would a country choose to implement dual or multiple exchange rates? It's risky, but it can work.
  4. Personal Finance

    What Are Central Banks?

    They print money, they control inflation, and much, much more. All you need to know about central banks is here.
  5. Chart Advisor

    Is Now the Time to Invest in North America?

    Bullish chart patterns across the North American markets suggest that now might actually be a wise time to allocate closer to home.
  6. Investing

    How To Trade Foreign Stocks

    We weigh the major ways to trade foreign stocks for investors.
  7. Forex

    The Worst Performing Currencies Of 2015

    The U.S. dollar has strengthened over the past year while weakness in Europe and the former Soviet Union has led to declines in those currencies.
  8. Economics

    Asian LNG Prices: Not Likely To Rise Anytime Soon

    Asian LNG prices could stay low for an extended period of time, due to low oil prices, less demand and new LNG-producing projects on various continents.
  9. Forex

    Is The Swiss Franc A Safe Haven?

    We examine when and why there are runs on Swiss francs.
  10. Investing Basics

    Here's How To Tap International Markets

    Access to foreign markets has grown a lot in recent years, allowing US market players to trade these bourses in real-time.

You May Also Like

Hot Definitions
  1. Interest Rate Risk

    The risk that an investment's value will change due to a change in the absolute level of interest rates, in the spread between ...
  2. Income Effect

    In the context of economic theory, the income effect is the change in an individual's or economy's income and how that change ...
  3. Price-To-Sales Ratio - PSR

    A valuation ratio that compares a company’s stock price to its revenues. The price-to-sales ratio is an indicator of the ...
  4. Hurdle Rate

    The minimum rate of return on a project or investment required by a manager or investor. In order to compensate for risk, ...
  5. Market Value

    The price an asset would fetch in the marketplace. Market value is also commonly used to refer to the market capitalization ...
  6. Preference Shares

    Company stock with dividends that are paid to shareholders before common stock dividends are paid out. In the event of a ...
Trading Center