A General and Theoretical FX Model for the Multi-Currency Basket: Economic, Financial and Mathematical Approach

Abstract

The multi-currency basket is an exchange rate regime in which the currency is pegged to several foreign currencies. The basket is defined by its composing foreign currencies, and by the weighting of each currency in the basket. The exchange rate in such a regime is pegged to a weighted basket of currencies.

We propose to present the benefits and the drawbacks of such an exchange rate regime from a macroeconomic and financial point of view. We also formulate mathematically a general theory of Foreign Exchange in the case of a currency under the regime of a multi-currency basket. The creation ex nihilo of a general model for a multi-currency basket results in equations applicable in all cases. The article covers theoretical and practical aspects of this exchange rate regime, responding to the most concrete issues faced by financial markets’ professionals, and should also interest academics, teachers and students.