BSD "PEG" TO USD EXPLAINED
Let's start with the basics: a currency peg means that a country has fixed the exchange rate of its currency to that of another country’s - in our case to the US dollar. An exchange rate is simply the price of a country’s currency in terms of another currency. It is estimated that about 25% of countries around the world have pegged their currency to other major currencies like the US dollar and euro. Although it is common practice, many people still wonder why the Bahamian government chooses to peg its dollar to the US dollar. They are also curious about how the Central Bank of The Bahamas maintains this peg. But before we can answer those questions, let’s first take a look at the history of the Bahamian currency.
FROM POUNDS TO DOLLARS
Before 1825, The Bahamas used Spanish "Pieces of Eight" which were named after the coin's easy physical division into eight pieces of silver. At this time, Pieces of Eight were widely used in the Western Hemisphere as the legal tender for global commerce. In other words, they were commonly used as the official method of payment in global trade.
In 1825, the British passed an imperial order in council to introduce the British coinage to all of its colonies. The Bahamian Pound or Pound Sterling became the official currency of the land until 1966, when the Bahamian Dollar replaced it at a rate of $1 to seven shillings (one shilling = 1/20 of a pound). This ensured that B$1 was equal in value to 1 USD. The conversion was accompanied by decimalization, which saw B$1 broken into 100 cents.
Here, it is important to note that long before the Bahamian dollar was established, the US dollar was deemed acceptable for use within The Bahamas.
Since it was first issued, the Bahamian dollar has remained pegged to the US dollar on a one-to-one basis. The main reason for this peg is because the country's main trading partner is The United States.
The Bahamas has a service-based economy. One of our main sources of economic activity is tourism, and most of our annual visitors come from the US. We manufacture very little and import most of our goods for consumption and development. Because the US is our main trading partner, most of our international trade is done in US dollars. This peg helps to stabilize the Bahamian dollar relative to the US dollar and makes the cost of transactions much easier.
If a Bahamian retailer is planning to import $25,000 worth of goods from the US, he or she can expect to pay this amount in Bahamian dollars without having to worry about a change in exchange rates.
THE ROLE OF THE CENTRAL BANK
An important role of the Central Bank is to maintain the 1:1 rate of the BSD and the USD. This is achieved using Exchange Control.
The Central Bank places restrictions on foreign exchange transactions including currency purchases, payments and investments. This means foreign investors - including banks and other companies - are not allowed to hold BSD except to cover local expenses. Similarly, Bahamians who wish to make payments or investments in foreign currencies must first apply to the regulator for approval.
This allows the Central Bank to monitor and manage the use of The Bahamas' foreign currency reserves. Over the last few years, some of these controls have been relaxed, e.g. recent measures allow some Bahamian companies to hold foreign currency accounts at local commercial banks without the Central Bank's prior approval. Over the last few years, the effort to control the exchange rates have relaxed, with most recent measures allowing Bahamian companies to hold foreign currency accounts at local commercial banks without Central Bank’s prior approval.
WHY THE PEG MATTERS | GET MONEY SMART
As a developing country that depends heavily on trade, it is important to maintain the USD peg for economic growth. "In addition to keeping the exchange rate stable, the peg adds structure to The Bahamas' monetary policy, creating a foundation for The Bahamas to conduct macro (e.g. imports and exports) and micro (e.g. companies hiring or buying inventory). If The Bahamas were to lose the peg, the Bahamian dollar would become less valuable in the global market, which in turn impacts not only the Bahamian economy, but also the value of your hard-earned money!