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Currency Board Arrangements. A monetary regime based on an explicit legislative commitment to exchange domestic currency for a specified foreign currency at a fixed exchange rate, combined with restrictions on the issuing authority to ensure the fulfillment of its legal obligation.

Real World Example of a Currency Board Hong Kong's currency board has a 100% reserve requirement, so all Hong Kong dollars are fully backed with U.S. dollars.1 While the currency board contributed to Hong Kong's trade with the U.S., it also worsened the impact of the 1997 Asian financial crisis.

The central characteristic of a currency board system is that the domestic currency is issued only when there are corresponding foreign currency reserves to back it up, and the currency in circulation is fully convertible into the foreign reserve currency at the established fixed exchange rate.

A currency board is defined as a monetary institution that issues base money solely in exchange for foreign assets, specifically the reserve cur- rency. Base money consists of notes and coin (?cash,? for convenience), and may also include the other reserves, or some of the other reserves, held by commercial banks.

What is the difference between the two approaches? In a currency board arrangement, the country issues its own currency but that currency is backed 100% by foreign exchange holdings of a hard foreign currency - usually the U.S. dollar.

A currency board combines three elements: an exchange rate that is fixed to an "anchor currency," automatic convertibility (that is, the right to exchange domestic currency at this fixed rate whenever desired), and a long-term commitment to the system, which is often set out directly in the central bank law.

The important features of Currency Board are a fixed exchange rate, backing requirement, unrestricted convertibility, and legal commitment. Fixed exchange rate: At a fixed exchange rate, the value of the domestic currency is tightly correlated with the value of an anchor currency.