Foreign Currency Exchange Rates

For every forex trader and investor, it is extremely important to understand how exchange rates work and how they affect the forex market.

Exchange rates, currencies like euros, dollars, yens, marks, francs, floating exchange rates, pips, points, leverage, all play intrinsic roles in influencing the market.

Forex currency exchange rate refers to the relative worth of one currency against another. For example, if the exchange rate of U. S. dollar to euro is 0.10, it means with 10 dollar you can receive 100 euros.

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In the forex market if the exchange rate is expressed as EUR/USD=1.1023, it means each euro is worth $1.1023. Here, the fourth decimal point is used because of the large volume of trading.

The upward and downward movement of forex currency exchange rate is one of the main driving forces behind the forex trading. The demand for a certain currency decides the exchange rate for it in the market.

Taking the previous example of dollar to euro, if the exchange rate becomes 0.11 from 0.10, every dollar is now worth 11 euros instead of 10 euros.

Foreign exchange is required for either buying goods or service from a specific country, traveling, to invest, or to trade. If you want to buy goods in Japan, you would need yen and if you are having dollar, you will have to exchange it for yen. If many people are trying to buy yen at the same time, you end up paying or exchanging more dollars for less yen.

Foreign currency exchange rate depends on the economy of the country in question. When a country’s economy is strong, it assures the investors that they can make more money by investing in businesses and products in that country.

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On the other hand, if economic announcements, change in tax and interest rates, or record of employment goes down for a country, it shows a weakening economy and that gets reflected in the exchange rates. In simpler words, the demand for a certain currency decides its exchange rate.

There are few more factors other than demand and supply that affects the foreign currency exchange rates like the GDP, trade volume, or export. Interest rate is more such factor.

When you hold a currency, you earn interest in that country’s currency at the prevailing rate. If the interest rate is higher for dollar than for euros, people will trade in their euros for dollar to earn a higher rate.

Rate of inflation is one more factor to affect the foreign exchange rate. When the inflation rate in a country is high, people will not wish to buy the country’s currency as inflation shows that value of the money is going down.

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