Active crawling peg is a type of crawling peg system where the central bank preannounces a target band of the exchange rate. In crawling peg, the central bank sets a target band for exchange rate fluctuations. Exchange rate movements must be within the band. Then, the central bank periodically adjusts the target band based on the development of selected economic indicators, usually the difference in inflation with the main trading partner countries.
The exchange rate is not only set against one foreign currency but may also against a basket of selected foreign currencies – known as multi-pegging currencies – for example, the US dollar, Yen and Euro. When involving more than one foreign currency, the central bank gives weight based on its significance.
Goal of active crawling peg
The purpose of the active crawling peg is to direct inflation expectations. As part of the stabilization program, the central bank, for example, announces periodic, weekly, or monthly exchange rate depreciations. The announced depreciation rate is lower than the inflation rate of trading partner countries, and gradually the depreciation rate is reduced.
The success of this system depends on its central bank credibility and amount of foreign exchange reserves. When it is not enough, small foreign exchange reserves can cause the collapse of this system.
Also, this system reduces the flexibility of the central bank to implement the monetary policy because it ties the domestic exchange rate with inflation of trading partners.