More on Currency Exchange Rates

The currency exchange rates can be defined as the rate at which a country's currency can be exchanged with the currency of another country. This exchange rate is simply the rate at which one currency is converted into another foreign currency.

It is also commonly referred to as the rate of exchange. In financial circles the exchange rate is also known as foreign exchange rate, forex rate, and FX rate. The exchange rates indicate what the value of a home country's currency is in terms of a foreign country's currency.

A country's currency becomes more valuable whenever its demand is greater than its supply. Vice-a-versa, a country's currency loses value whenever its demand is less than its supply. In a typical foreign currency exchange transaction you would buy a quantity of one currency and pay with a quantity of a different (foreign) currency.

A Brief Historical Understanding of Currency Exchange Rates

At the end of the Second World War the Allied nations USA, Britain, and France, signed the Bretton Woods Accord with the objective of stimulating economic recovery internationally through stable currencies exchange.

Under the Bretton Woods Accord the major trading currencies were pegged (fixed rate) to the US dollar. These currencies were only allowed to fluctuate 1 percent up or down from the US dollar fixed rate of exchange.

When currency deviated more than 1 percent from the fixed rate (pegged rate) the national central bank in charge of that currency had to either buy or sell that currency in order to restore it to the pegged rate.

This fixed exchanged rate continued until 1973 when countries started to opt for the floating exchange rate system as is the practice today.

Factors Affecting Currency Exchange Rates

There are a number of primary factors as well as major economic factors that can and do affect the exchange rate determination of foreign exchange rates.

These fundamental factors that influence exchange rates can be grouped into four categories:

1. economic factors
2. financial factors
3. political factors, and
4. crises

The Foreign Exchange Market

The foreign exchange market (FOREX market) today is the largest financial market in the world. It is also the most liquid financial asset market, with daily transactions turnover in excess of 4 trillion US dollars. Since the 1970s this market has used the floating exchange rate system, which replaced the former fixed rate system.

The Forex market include, international banks, governments, central banks, institutional investors, large corporations, currency speculators, other financial institutions, and retail investors.