Convertibility of currency can either be through the capital account or current account. Convertibility of capital account and current accountĬonvertibility through the capital account is possible through portfolio capital flow, direct investment flows and flows of borrowed cash. In the end, it ensures that there is a balance in both imports and exports. It discourages imports by increasing their prices thereby encouraging exports. Over-valued exchange rate leads to a deficit in the balance of payment thereby making the currency to depreciate. Finally, convertibility is a balancing mechanism. Funds sent from overseas can be exchanged to the local currency easily. It also encourages people to remit funds from abroad. This discourages imports thus making a country to rely on local production. This happens because the currency exchange rate is usually higher compared to the fixed rates thereby making the prices of imports higher. Profitability increases because the foreign exchange rate is higher compared to the fixed exchange rate.Ĭonvertibility also encourages import substitution. Convertibility encourages imports by increasing their profitability. It also provides high economic growth thereby ensuring improved living standards through trade. This is because there is an increase in capital flows between countries.
Convertibility ensures integration of the world economy by easing the international trade. The ability to convert currency into different currencies offers the following benefits. Advantages of freely convertible currencies
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