This fact causes friction in the entire economic system. However, if exchange rates are allowed to change, they change in the appropriate direction, given the nature of changes in the variables affecting the exchange rates. The monetary policy and growth performance of a country affect exchange rates.
For example, when foreigners’ demand for a country’s exports declines, output also decline and the country’s currency depreciates. This situation helps improve the country’s export performance because depreciation makes the country’s goods cheaper to foreigners. If the same initial shock happened under the fixed exchange rate regime (decline in the demand for the country’s exports), then because the exchange rate can’t change, the country must reduce the money supply, which further decreases the output.