Currency exchange rate.

      In economics, a currency exchange rate is a measure by which one particular currency is traded for another. It is also commonly referred to as the exchange rate of one nation's currency against that of another nation. In the field of international business, this rate is usually referred to as the foreign exchange rate. It can be compared with other factors such as current account interest rates and credit default swaps, which are all used as components of a central economic indicator.
     The exchange rate between two nations reflects the balance of trade between them. A country with a large current account and high inflation is said to have a high currency exchange rate. On the other hand, a country with low inflation and low current accounts is said to have a low exchange rate. This is because when the price of domestic currency increases, more money is saved than is invested in the foreign market. Thus, over time, the difference between the two rates becomes insignificant. The calculation of the exchange rate takes into consideration both the inflation and current account balance.
     There are three major factors used in determining the exchange rates, namely, balance of payments, trade balance and floating exchange rates. Balance of payments refers to the differences in trade receipts and credits. The floating exchange rate indicates the tendency of currencies to appreciate or depreciate with time, which is dependent on the policies of foreign governments.
     The balance of payments model is based on the assumption that the trade deficit is offset by a corresponding current account deficit. The model can be seen as a relationship between variables measured in terms of potential income and liabilities. The potential income is equivalent to the excess of assets over liabilities. The liabilities are referred to as current account liabilities while the excess assets are called current account assets.
     In a floating rate regime, foreign currencies are allowed to float in the foreign exchange markets. This means that the value of the currency would change according to the prices that the buyers and sellers in the different countries pay for their goods and services. The foreign exchange rate regime differs from a fixed rate regime in the following ways. In a fixed exchange rate regime, the exchange rates are established through the intervention of the central bank. A floating exchange rate makes use of the market rates rather than the intervention of the central bank.
     In a floating rate system, the central bank controls the opening and closing balances of the foreign currency transactions. Once the opening and closing balances have been determined, the quantity of money supply is controlled to ensure that the domestic monetary system is in equilibrium. The intervention of the central bank in the business cycle and changes in the interest rates affects the balance of payments between domestic currency holders and foreign currency buyers and sellers.
     There are three main factors that affect the exchange rate. These include the Eurozone economy and the strength or weakness of the national economy. Economic indicators are compiled into useful charts that allow forecasters to project how the economy will perform. These charts are widely used by both businesses and consumers to determine the effective exchange rate of the Euro against the other currencies of the world. Other important elements include the composition of the foreign exchange market as well as the policies of the central bank. These determine whether the effective exchange rate of the Euro against the dollar is favourable or not.
     The base rate for the calculation of the foreign exchange rate of a certain currency pair is the Euro against the local currency. For instance, if the Euro is valued against the US dollar, the exchange rate of the Euro against the pound is the effective exchange rate. The conversion of this rate is often complicated due to varying local interest rates and exchange rates with other countries. A more simple way to convert is to use the Euro to the British pound or vice versa. This is what is known as the local currency conversion.

Copyright © All rights reserved.