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The average person has a very vague understanding of what the exchange rate is and by what rules it works. In a globalized world, this ignorance can lead to negative consequences and loss of money. Let's try to figure out what it is, what it depends on and how to learn to understand and read information that is indirectly or directly related to it.
The exchange rate is the price of the monetary unit of one country, expressed in the monetary unit of another country, precious metals, securities. This phenomenon itself has become a natural process of economic globalization.
International trade is conducted in monetary units. Before you buy goods, services or financial assets abroad, you need to buy or exchange the currency of your country for the one you need in the foreign exchange market. The course is governed by the law of supply and demand.
There are two exchange rate regimes: floating and fixed. Floating is an exchange rate regime in which the exchange rate fluctuates freely under the influence of market factors. Fixed is an exchange rate regime in which the rate of the national currency is held at the desired value by administrative methods. It requires resources to maintain it, and in the end it can lead to a sharp jump in the exchange rate. Some countries combine both of these regimes.
The law of supply and demand manifests itself in the best way possible in the exchange rate. Let's give an example with a product. If a person has a specific product in a single copy that he wants to sell, and the demand for it is very high, then this person can raise the price. Since there are few goods, and there are many who wish, raising the price is a logical economic step. If a person has a product for which there is extremely low demand, he will reduce the price.
Therefore, when rumors spread about the fall of the national currency due to some alleged event, the foreign currency begins to be more valuable. People start buying it because they are afraid for their savings. This leads to an increase in the price of foreign currency, and regardless of the expected negative event. That is, a negative event has not yet come, and foreign currency is already in great demand and quite naturally becomes more expensive.
Rumors, of course, can be fictitious. This is done in order to speculate and capitalize on the fears of ordinary people. Unfortunately, this can only be verified after the fact - that is, when the national currency begins to gain strength and in some cases reaches its initial (before the launch of a fictitious rumor) level. Therefore, the credibility of financial analysts and the media must be cautious. We can be interested in their opinion only in order to understand where the public attention is directed, and then draw the appropriate conclusions. Also remember that manipulation from scratch is almost impossible - if the economy is growing in the country, then no one will believe the statements that everything will collapse soon.
Trade balance of the country... It consists of exports and imports. When a country sells something to other countries, foreign currency begins to flow into it. If the country buys, foreign currency starts to flow out of the country, because all international trade transactions are carried out in foreign currency. Ideally, a balance should be observed - exports are equal to imports, which means that the exchange rate will be stable. If there is a significant lurch in one direction, this can greatly affect the exchange rate. When a country buys more often than it sells, it leads to a shortage of foreign exchange and a drop in the national currency. If the country exports more, then the national currency is growing rapidly. This seems to be a positive moment, but in reality it turns out that national exporters are becoming uncompetitive in world markets. Therefore, look at the trade balance of your country.
Inflation. This is the depreciation of the national currency. In the course on "Financial literacy" we talked about the fact that low inflation is a normal phenomenon and does not cause significant economic crises. However, if inflation is more than 10% per year, then the national currency starts to have problems.
Labor market. The state of the labor market largely determines the rate of economic growth of the country. Wages should rise with the growth of the economy. But the higher the salary, the more competition should be. If there is high unemployment in the country, this affects the labor market and, accordingly, the exchange rate.
Gross domestic product. This is the market value of all final goods and services produced in a year in all sectors of the economy for consumption, export and accumulation. Some economists criticize it as an indicator of the state of the economy because it cannot be an objective factor. This is true, but no one forbids you from using other tools to determine the state of your country's economy.
Investment climate. Here, too, everything is logical. If the inflow of foreign exchange increases, then the national currency rises. If there is an outflow of investments, then the national currency falls according to the law of supply and demand - there is less foreign currency, which means there is more demand for it.
Hopefully, you now understand a lot more about why the exchange rate is changing and can see some of the economic consequences. We wish you the best of luck.
The exchange rate is the price of the monetary unit of one country, expressed in the monetary unit of another country, precious metals, securities. This phenomenon itself has become a natural process of economic globalization.
International trade is conducted in monetary units. Before you buy goods, services or financial assets abroad, you need to buy or exchange the currency of your country for the one you need in the foreign exchange market. The course is governed by the law of supply and demand.
There are two exchange rate regimes: floating and fixed. Floating is an exchange rate regime in which the exchange rate fluctuates freely under the influence of market factors. Fixed is an exchange rate regime in which the rate of the national currency is held at the desired value by administrative methods. It requires resources to maintain it, and in the end it can lead to a sharp jump in the exchange rate. Some countries combine both of these regimes.
Why is the exchange rate changing?
Rumors and expectations
This includes psychological factors and confidence in the local currency.The law of supply and demand manifests itself in the best way possible in the exchange rate. Let's give an example with a product. If a person has a specific product in a single copy that he wants to sell, and the demand for it is very high, then this person can raise the price. Since there are few goods, and there are many who wish, raising the price is a logical economic step. If a person has a product for which there is extremely low demand, he will reduce the price.
Therefore, when rumors spread about the fall of the national currency due to some alleged event, the foreign currency begins to be more valuable. People start buying it because they are afraid for their savings. This leads to an increase in the price of foreign currency, and regardless of the expected negative event. That is, a negative event has not yet come, and foreign currency is already in great demand and quite naturally becomes more expensive.
Rumors, of course, can be fictitious. This is done in order to speculate and capitalize on the fears of ordinary people. Unfortunately, this can only be verified after the fact - that is, when the national currency begins to gain strength and in some cases reaches its initial (before the launch of a fictitious rumor) level. Therefore, the credibility of financial analysts and the media must be cautious. We can be interested in their opinion only in order to understand where the public attention is directed, and then draw the appropriate conclusions. Also remember that manipulation from scratch is almost impossible - if the economy is growing in the country, then no one will believe the statements that everything will collapse soon.
Growth and decline of the economy
This includes many factors, some of the most important will be discussed separately.Trade balance of the country... It consists of exports and imports. When a country sells something to other countries, foreign currency begins to flow into it. If the country buys, foreign currency starts to flow out of the country, because all international trade transactions are carried out in foreign currency. Ideally, a balance should be observed - exports are equal to imports, which means that the exchange rate will be stable. If there is a significant lurch in one direction, this can greatly affect the exchange rate. When a country buys more often than it sells, it leads to a shortage of foreign exchange and a drop in the national currency. If the country exports more, then the national currency is growing rapidly. This seems to be a positive moment, but in reality it turns out that national exporters are becoming uncompetitive in world markets. Therefore, look at the trade balance of your country.
Inflation. This is the depreciation of the national currency. In the course on "Financial literacy" we talked about the fact that low inflation is a normal phenomenon and does not cause significant economic crises. However, if inflation is more than 10% per year, then the national currency starts to have problems.
Labor market. The state of the labor market largely determines the rate of economic growth of the country. Wages should rise with the growth of the economy. But the higher the salary, the more competition should be. If there is high unemployment in the country, this affects the labor market and, accordingly, the exchange rate.
Gross domestic product. This is the market value of all final goods and services produced in a year in all sectors of the economy for consumption, export and accumulation. Some economists criticize it as an indicator of the state of the economy because it cannot be an objective factor. This is true, but no one forbids you from using other tools to determine the state of your country's economy.
Investment climate. Here, too, everything is logical. If the inflow of foreign exchange increases, then the national currency rises. If there is an outflow of investments, then the national currency falls according to the law of supply and demand - there is less foreign currency, which means there is more demand for it.
Central bank policy
The central bank of any country is entrusted with the role of maintaining the national currency. The Central Bank has several mechanisms of influence:- Cash emission. The Central Bank prints new money in order, for example, to support the country's economy, but at the same time the national currency is falling. Sometimes this happens temporarily and is a normal process (the exchange rate of the national currency eventually levels out), but sometimes it can end very badly for the economy in general and the national currency in particular.
- Foreign exchange interventions. If the Central Bank sells foreign currency, the rate of the national currency rises. Conversely, if the Central Bank buys foreign currency, the national currency falls.
- Discount rate. This is the interest rate at which the country's Central Bank provides loans to commercial banks. If the discount rate rises, loans become more expensive, banks receive fewer resources, economic growth slows down - the national currency grows. This may seem paradoxical, but in this case inflation is restrained, which means that the national currency is strengthening.
- Administrative measures. These can be prohibitive measures on currency transactions.
Force majeure circumstances
Some of these circumstances can be much stronger than even economic factors. These are terrorist attacks, wars, powerful natural disasters, a change of government or other political events, mass strikes and protests. In these cases, the national currency always falls.Hopefully, you now understand a lot more about why the exchange rate is changing and can see some of the economic consequences. We wish you the best of luck.