What are the pros and cons of fixed versus floating exchange rates in a crisis situation?
Belka: Many a thick book has been written on this topic! In theory at least, we know the pros and cons of fixed versus floating exchange rates. The IMF’s basic approach is to be pragmatic and decide what to recommend based on an analysis of the situation in each individual country. Iceland differed from Latvia in that the financial system had collapsed and capital controls already were in place before we were asked to help. Obviously the choice of exchange rate depends on factors such as the size of the economy, the level of public and private debt, the level of reserves, the country’s institutions and history, and last but not least, policy preferences. For Iceland, all these factors seemed to argue in favor of a float. But above all, there is considerable uncertainty about the impact of the collapse of the banking system in Iceland—reflecting the unprecedented size of the collapsed banks relative to the rest of the economy—and it was therefore essential to maintain maximum flexibilit
