The question goes to whether the country wants to restrict its monetary policy or maintain an independent one. The motivation for fixing the exchange rate could be the following:

a) The country starts out with an independent monetary policy but it is not managed well, the government prints too much money, there is hyperinflation and people have no confidence in the currency. People may already be using the foreign major currency since they have no confidence in the local currency.

b) Related to a), fixing the currency to a predictable major currency such as the U.S. dollar can make investment in previously unstable economies more attractive since investors can rely on the convertability to the major currency that they can rely on.

c) Fixing the exchange rate may allow for less transaction costs between countries and greater market integration. If someone does not have to convert the price of an item from a foreign market, it makes it easier to purchase that item with the same nominal amount of currency.

d) Monetary policy is neutral in the long-run, but in the short-term can have a strong effect on real variables in the economy. Therefore, there is more risk in running the independent policy if it is too difficult to manage.

a and b apply primarily to the problems faced by developing countries emerging economies. C applies as opportunity to those as well, but also to the motivations for common currency in economic unions such as the EC and suggestions that Canada and U.S. dollars become equivalent. The issues that arise from monetary policy are short-run. This is where indendent monetary policy can be a blessing or a curse. On the one hand, mistakes can be made that throw the economy out of whack. On the other hand, monetary policy can buffer short-term shocks. In the long-run, fiscal policy determineds the real variables of the economy. Weak fiscal policy can bring on shocks that bad monetary policy can worsen. Strong fiscal policy drives an economy over the long-term where good monetary policy can buffer unexpected shocks in the short-term. Ultimately, the Central Bank must make decisions about how much money to print, where to set interest rates, whether to buy or sell currency on the foreign exchange market, buy or sell government bonds, lend to private banks etc. Where the currency is fixed, these decisions are predetermined by the decisions of the Central Bank in the country to whom the rates are pegged. The problems arise where monetary policy is too loose, and in general the flexible exchange rate should be a matter of supply and demand in the foreign currency market. What independent monetary policy can do is absorb structural and currency crisis shocks.

The reasons that Canada and other countries maintain an independent monetary policy by having a flexible exchange rate are as follows:
1) A flexible exchange rate is primarily governed by market forces, the supply and demand for currency. This yields a self-correcting mechanism to the exchange rate.

2)Canada has not seen the same problems of hyperinflation and currency crisis, so it hasn't had that motivation to tie itself to a more stable currency. Canadian and U.S. currencies are more or less equally reliable. The motivation comes from having a currency that has lost its lustre, if you will, looking to regain stability and confidence by convertability.

3) Many countries with a fixed exchange rate have not been able to respond to shocks and contagion in the short run.

4) Related to 2) If a country liberalizes its capital markets but keeps its fixed exchange rate, unless it has a large reserve of the foreign and local currencies, it is vulnerable to a mismatch of currency where liabilities are held in local currency and investment in foreign currency. With capital flight, it cannot respond to an impending currency crisis. Countries with liberalized capital markets may then prefer a flexible exchange rate.

5) The country that fixes its exchange rate by pegging to a major currency will have its monetary policy affected by the structural shocks to the country to which it is pegged. If the countries are structurally similar, this should suffice, if not the monetary policy may be inappropriate. Argentina was caught in this position when the US dollar appreciated under conditions relevant to the U.S. economy, however it's merely made Argentinian exports uncompetitive and further stagnated the economy.

6) If countries fix their currency in a currency union, decision-making may be done together but power is likely to fall with larger GDP countries, so this would work better in countries of similar size economies.

In terms of Canada and the U.S., John Murray of the Central Bank of Canada argues that though there are compelling reasons for Canada and the U.S. to have a common currency, our economies are not as structurally similar as they may seem and we would have little weight in decision-making in the common monetary policy. We would be better of with the European Monetary Union in terms of size and structure, however it would be somewhat impractical to participate in the governance of that monetary policy ( Murray, 1999).