In currency terminology, when does depreciation occur vs devaluation?

In currency terminology, when does depreciation occur vs devaluation?

• A. Depreciation occurs in a flexible system; devaluation occurs in a fixed system
• B. Depreciation occurs in a fixed system; devaluation occurs in a flexible system
• C. Both occur under fixed exchange rates
• D. They are synonyms for the same process

Answer: (A)

The main idea is how the exchange-rate change is produced: by market forces or by official policy. In a floating (flexible) system, the currency’s value moves with supply and demand in the market. When the market value falls relative to other currencies, that decrease is called depreciation. There’s no formal change to a target rate—the currency simply trades lower as traders adjust their expectations. In a fixed (pegged) system, the government or central bank commits to an official rate and must intervene to maintain it. If the authorities lower that official rate, making the currency weaker, that action is called devaluation. If they raise the peg, it would be a revaluation. So depreciation happens in a market-determined, flexible regime, while devaluation happens when the official rate is changed downward in a fixed regime.

The main idea is how the exchange-rate change is produced: by market forces or by official policy. In a floating (flexible) system, the currency’s value moves with supply and demand in the market. When the market value falls relative to other currencies, that decrease is called depreciation. There’s no formal change to a target rate—the currency simply trades lower as traders adjust their expectations.

In a fixed (pegged) system, the government or central bank commits to an official rate and must intervene to maintain it. If the authorities lower that official rate, making the currency weaker, that action is called devaluation. If they raise the peg, it would be a revaluation. So depreciation happens in a market-determined, flexible regime, while devaluation happens when the official rate is changed downward in a fixed regime.