What is a 'Foreign Exchange Intervention'

A foreign exchange intervention is a monetary policy tool in which a central bank takes an active participatory role in influencing the monetary funds transfer rate of the national currency. Central banks, especially those in developing countries, intervene in the foreign exchange market in order to build reserves, stabilize the exchange rate and to correct misalignments.

The success of foreign exchange intervention depends on how the central bank sterilizes the impact of its interventions, as well as general macroeconomic policies set by the government.

BREAKING DOWN 'Foreign Exchange Intervention'

Two difficulties that central banks face are determining the timing and amount of intervention, as this is often a judgment call rather than a cold, hard fact. The amount of reserves, the type of economic trouble facing the country, and the ever-changing market conditions make taking the best course of action difficult.

Why Intervene?

Foreign exchange intervention comes in two parts. Firstly, a central bank or government may assess that its currency has slowly become out of kilter with its economy and is having adverse affects on it. For example, countries that are heavily reliant on exports and are dealing with a currency that is appreciating may intervene. By weakening its currency it is making the products it exports more competitive on the global market. During the oil crisis in 2015, many Middle Eastern countries that peg their currency to the U.S. dollar devalued it because as the price of oil plunged it was receiving fewer receipts. Remember oil prices are denominated in U.S. dollars. 

Secondly, intervention can be a short-term reactionary to a certain event. Often, times a one-off event may cause a countries currency to move in one direction in a very short space of time. Central banks will intervene with the sole purpose of providing liquidity and reducing volatility. After the Swiss National Bank (SNB) lifted the floor in its currency against the euro the Swiss franc plummeted by as much as 25 percent, which saw the SNB intervene to stop it falling further and to curb the volatility. 

Risks

Foreign exchange interventions can be risky in that they can undermine a central bank's credibility if it fails to maintain stability. Defending the national currency from speculation was a precipitating cause of the 1994 currency crisis in Mexico, and was a leading factor in the Asian financial crisis of 1997.

RELATED TERMS
  1. Sterilized Intervention

    Sterilized intervention is a central bank action to influence ...
  2. Managed Currency

    A managed currency is one whose exchange rate is affected by ...
  3. Floating Exchange Rate

    A floating exchange rate is a regime where a nation's currency ...
  4. Unsterilized Foreign Exchange Intervention

    An unsterilized foreign exchange intervention is a method by ...
  5. Sterilization

    Sterilization is a form of monetary action in which a central ...
  6. Foreign Exchange Reserves

    Foreign exchange reserves are reserve assets held by a central ...
Related Articles
  1. Investing

    Taking Advantage Of Central Bank Interventions

    These interventions provide great opportunities for investors and traders to seize entries into longer-term trends.
  2. Personal Finance

    Conduct A Financial Intervention

    Find out what you can do to help someone who is finanically out of control.
  3. Insights

    Central Bank

    They print money, they control inflation, they are known as the "lender of last resort". Check out the role of Central Bank nd how its role evolved overtime.
  4. Investing

    Why The Swiss Franc Is So Strong

    We look at the recent and historic strength of the Swiss franc, as well as recent actions by the Swiss National Bank.
  5. Investing

    Get To Know The Major Central Banks

    The policies of these banks affect the currency market like nothing else. See what makes them tick.
  6. Trading

    Why Having a Strong Currency Is Like Holding a Hot Potato

    Strong currencies can create complicated situations for nations and policymakers, especially when central banks use divergent and robust monetary easing.
  7. Investing

    Protect your foreign investments from currency risk

    Hedging against currency risk can add a level of safety to your offshore investments.
  8. Trading

    Drastic Currency Changes: What's The Cause?

    Currency fluctuations often defy logic. Learn the trends and factors that result in these movements.
  9. Tech

    Can Bitcoin Kill Central Banks?

    Bitcoin is a peer-to-peer unofficial currency that operates without government or central bank oversight. Can Bitcoin kill off the need for central banks?
  10. Investing

    This Central Bank Owns U.S. Equities Worth 20% of GDP

    Discover more about Swiss National Bank's holdings of financial assets, and look into its recent accumulation of foreign equities.
RELATED FAQS
  1. How does capitalism work in a mixed economy?

    Read about how the forces of capitalism change in a mixed economy, and why governments intervene in voluntary exchanges to ... Read Answer >>
  2. What is foreign exchange?

    Foreign exchange is the conversion of a country's currency into another. In a free economy, a country's currency is valued ... Read Answer >>
  3. How does the balance of payments impact currency exchange rates?

    Take a brief look at the relationship between a nation's balance of payments and the exchange rate value of its currency ... Read Answer >>
Hot Definitions
  1. Return On Equity - ROE

    The profitability returned in direct relation to shareholders' investments is called the return on equity.
  2. Working Capital

    Working capital, also known as net working capital is a measure of a company's liquidity and operational efficiency.
  3. Bond

    A bond is a fixed income investment in which an investor loans money to an entity (corporate or governmental) that borrows ...
  4. Compound Annual Growth Rate - CAGR

    The Compound Annual Growth Rate (CAGR) is the mean annual growth rate of an investment over a specified period of time longer ...
  5. Net Present Value - NPV

    Net Present Value (NPV) is the difference between the present value of cash inflows and the present value of cash outflows ...
  6. Price-Earnings Ratio - P/E Ratio

    The Price-to-Earnings Ratio or P/E ratio is a ratio for valuing a company that measures its current share price relative ...
Trading Center