Soft currency is a currency which is hyper sensitive and fluctuates frequently. Such currencies react very sharply to the political or the economic situation of a country.
It is also known as weak currency due to its unstable nature. Such currencies mostly exist in developing countries with relatively unstable governments. Soft currencies cause high volatility in exchange rates as well, making them undesirable by foreign exchange dealers. These currencies are the least preferred for international trade or holding reserves.
A nation is a sovereign entity. Any risk arising on chances of a government failing to make debt repayments or not honouring a loan agreement is a sovereign risk.
Such practices can be resorted to by a government in times of economic or political uncertainty or even to portray an assertive stance misusing its independence. A government can resort to such practices by easily altering any of its laws, thereby causing adverse losses to investors.
🔹Special Drawing Rights
This is a kind of reserve of foreign exchange assets comprising leading currencies globally and created by the International Monetary Fund in the year 1969.
Before its creation, the international community had to face several restrictions in increasing world trade and the level of financial development as gold and US dollars, which were the only means of trade, were in limited quantities. In order to address the issue, SDR was created by the IMF.
SDR is often regarded as a ‘basket of national currencies’ comprising four major currencies of the world – US dollar, Euro, British Pound and Yen (Japan). The composition of this basket of currencies is reviewed every five years wherein the weightage of currencies sometimes get altered.