What does it actually cost to hold a currency peg?
Roughly half the world's economies do not let their exchange rate float freely. Every one of them is paying for that choice with something, and the constitutional law governing what they pay is one of the most reliable results in macroeconomics.
The spectrum, not the switch
Exchange-rate regimes run along a continuum: free float → managed float (occasional intervention, no announced target) → crawling peg or band (a target that moves on a schedule) → hard peg (a defended fixed rate) → currency board (a fixed rate with full foreign-reserve backing and no discretionary monetary policy) → dollarisation or monetary union (no domestic currency to speak of at all).
The impossible trinity
A country can have at most two of these three:
- A fixed exchange rate
- Free movement of capital
- An independent monetary policy
The logic is airtight. If capital moves freely and the exchange rate is fixed, then domestic and foreign assets are near-perfect substitutes, so domestic interest rates must equal the anchor's — otherwise money floods in or out until the peg breaks. Setting your own rate requires either letting the currency move or stopping the capital.
Hong Kong chose the first two. Its Linked Exchange Rate System has fixed the Hong Kong dollar to the US dollar since 17 October 1983, and since May 2005 the Monetary Authority has operated a convertibility undertaking at 7.75 and 7.85 HKD per USD. The price is a total loss of monetary independence: Hong Kong imports the Federal Reserve's policy, and HIBOR tracks US rates regardless of local conditions.
Denmark has run a very narrow peg to the euro inside ERM II, at a central rate of 7.46038 kroner with a ±2.25% band, and likewise follows ECB policy.
Two different bills
Defending a weak-side peg means selling foreign reserves to buy your own currency. The bill is paid in a finite, countable stock — and the market can watch it drain in the published reserve data.
Defending a strong-side peg means creating your own currency to buy foreign assets. The bill is paid in a balance sheet that expands without limit, in foreign-currency assets whose value in domestic terms will collapse if the peg is ever abandoned. Switzerland's central bank held about CHF 495 billion of foreign-currency investments at the end of 2014 — on the order of three-quarters of Swiss GDP — while defending a floor against the euro.
What actually breaks a peg
On the strong side, never the arithmetic — the balance sheet expands without limit. On the weak side the reserve stock is finite and can genuinely run out. Either way, the last step is a decision that the cost is no longer worth paying.
- ERM, 16 September 1992. The UK raised its base rate from 10% to 12% and announced a further rise to 15% in a single day, then suspended its ERM membership that evening. Sterling fell around 15% against the Deutsche Mark over the following weeks.
- Thailand, 2 July 1997. The baht was floated after reserves had been spent defending it. It fell sharply on the day and had lost more than half its value against the dollar by January 1998, triggering the Asian financial crisis.
- Argentina, January 2002. The one-to-one convertibility regime in place since 1991 was abandoned; the peso fell to several per dollar within months.
In each case the peg was defensible for one more week and indefensible for one more decade, and the decision was political rather than arithmetic.
A modern qualification
Hélène Rey argued in 2013 that the trilemma has in practice become a dilemma: because a global financial cycle driven largely by US monetary policy transmits across borders regardless of exchange-rate regime, a floating rate does not fully buy monetary independence. Free capital mobility and independent monetary policy may be the real trade-off. This is contested, and worth knowing as an open question rather than a settled fact.
In the data
A pegged currency is quoted exactly like a floating one, and nothing in a list of pairs marks a regime as fixed, managed or floating. You infer it from the prices. Below are today's high and low for the Hong Kong dollar and for euro-dollar.
On 29 September 2026 the Hong Kong dollar's range was about 0.02% of its price and euro-dollar's about 0.27%, more than ten times as wide. The regime shows up in how narrow the day's range stays, day after day. Which means that on the day a peg breaks, no label changes; only the numbers do.
Try it now
- Five years of the pegged pair is below. Drop a Level at 7.75 and a second at 7.85, and look at what the price does between them. Then look at what it does at them, which is the more informative half.
- Now put a freely floating cross beside it over the same five years and compare the two vertical scales. One of these charts needs a band drawn on it to be interesting; the other does not.
- The peg is held with an interest rate, not an opinion: Hong Kong follows the Fed because it has chosen the other two legs of the trilemma. Name which leg it gave up, and write one sentence on what would have to change for the band to move.