Currency Exchange Rate Depends Upon Various Economic Factors - By: Peter Lawlor

So, you think that you know everything about currency exchange rate? You may be right, but let us discuss about currency rates, what defines them and what affects them as well. These are the rates that form an integral part of the foreign exchange market in which over $3 trillion is traded as of 2009. This is something that is the crux of highly decentralized over-the-counter market. In simpler words, currency exchange rate is the rate that one gets by exchanging one national currency for the currency of another country. It is basically what foreign exchange market is - trading of two different currencies at a stipulated time and at a stipulated rate.

Hence, when you go out to buy something and pay the price, in the same way, when you want to buy the other currency of a different nation, the price that you pay for it is called currency rates and the rate at which you buy it is called currency exchange rate. Usually, there are two types of exchange rates: fixed exchange rates and floating exchange rates. Fixed rates are often decided by respective central banks of the nations and the price will be decided against the major world currencies of the world. When the currency rate is fixed by the government, the central bank buys and sells the country's own currency on foreign exchange market so that local exchange rate is maintained.

Another type of currency exchange rate is that of floating exchange rate. This is mainly governed by market's supply and demand rule. That is, if the demand is low, it will be considered a weak currency on foreign exchange market and if the demand is high, it would be a strong currency on the foreign exchange market. However, if inflation is unusually high, central bank may interfere in floating rates. Now, there are some major factors on which currency rates depend. Those factors include: interest rates, employment outlook, Economic Growth Expectations, Trade Balance and Central Bank Actions. Interest rates are very crucial in determining currency rates. For example, if the interest rates of the country are higher, the demand for that currency is going to be higher and if the interest rates are lower, the demand of that currency is going to be lower in the foreign exchange market.

Currency rates and therefore, currency exchange rate depends on employment situation of the country. If the country is facing unusual unemployment scenario, it means that the economy is slowing down and that people are not able to spend. This is the situation which has the potential to make currency devalued. This again makes the currency losing out in the foreign exchange market. Expectations regarding economic growth too contributes in the strength or weakness of currency rates. Another factor of trade balance affects supply and demand for a currency. The decisions regarding interest rates to manage the economy by central bank also impact currency rate and currency exchange rate. Hence, currency exchange rate is totally dependent upon various factors as well as currency rates.

About the Author

Peter lawlor is a Forex expert and writes extensively about currency exchange rate and currency rates.

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