Importance of Foreign Exchange Market for Country’s Economy

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There are several reasons why you should care about the amount of USD required to purchase one Euro, one Yuan, one Pound (Sterling), and one Australian Dollar. Let us see the importance of foreign exchange market for country’s economy. This information is important if you’re planning a trip to any of those locations. Has the price of the hotel room increased to €1,000? Maybe a thousand?

You should learn what is Forex market? before we go head and understand in more depth. Every country in the globe engages in commerce with other countries. Some countries trade more than others (Iceland, Mauritius, and Ireland top the way in terms of percentage of GDP), but all do it, even illicitly, when the United Nations says they can’t because they’ve done something wrong, even if it’s illegal. Most of the time, bartering isn’t a viable option for doing business transactions. As a result, we have recourse to monetary instruments. How does it work if the money used by the traders is not the same as the money used by the buyers? Current practice is for one party (typically the buyer) to swap his or her currency with that of the seller’s, and then to finalize it.

How Capital Markets Affect the Economy?

What effect does this have on you? Because when your country’s currency, like the U.S. dollar (USD or simply $), is strong and can purchase a lot of foreign money, say Canadian dollars (C$), Canadian items appear inexpensive to you. Also, we all know what happens when products are made cheaply, right? Your Bud has been replaced by Moosehead, so you decide to quit drinking it.

Importance of Foreign Exchange Market for Country’s Economy-Importance of Currency Markets

Spend your money on Toronto’s sports teams instead of Manhattan’s, and you’ll save yourself a trip to New York. The month of April is a particularly wonderful one for sports enthusiasts. When the Blue Jays game is postponed due to snow, you go to the Canadian Ballet instead of watching the game. Purchase a Canadian computer or vehicle, for example. Essentially, you and your fellow Americans import more from Canada.

The Canadians are ecstatic about this, but they’re not so delighted with American goods, which they find exorbitantly costly since they have to give up a lot of their loonies to purchase dollars. Moosehead is their preferred beer over Bud, and they also avoid Manhattan in favor of Toronto. For the U.S. economy in general, as well as for U.S. citizens, including those in rural villages: USD appreciation (strengthening, buying more C$) would exacerbate the problem. Was there a depreciation (weakening of the dollar, resulting in less C$ being purchased)? The situation would improve and finally reverse itself.

Importance of Foreign Exchange Market for the Economy

Capital markets, it’s not a piece of news that affects the nation’s economy. But how exactly are they able to influence a country’s economy? The short and one of the most common answers to the questions is currency fluctuations.


Most major economies have floating exchange rates, which leads to currency volatility. As well as economic performance, inflation expectations, and interest rate differentials, capital movements have a significant impact on exchange rates. Normal daily activities are carried out in the native currency. In order to forecast future fluctuations in national currency experts in most cases use Forex economic indicators, which allows them to analyze the past changes in the currency and usually is dependent on some economic factors. Some of the economic factors among others, are inflation rate, CPI, interest rate, monetary policy, and so forth.

There is a huge importance of foreign exchange market for the country’s economy. The level of a currency has the following direct influence on the economy:

Goods and Services

Exports and imports of a country are referred to as this. Exports are stimulated by a lower currency, which makes them cheaper for overseas buyers to purchase.

Let’s say you are an American exporter who sells widgets to a customer in Europe for $10 a piece. The current exchange rate is $1.25 to one euro (EUR). A widget costs €8 in Europe.

Consider a scenario in which the dollar is weakening and the exchange rate is €1=$1.35. However, you’re willing to negotiate a lower price with your buyer as long as you make at least $10 for each widget. In the current currency rate, even if you set the new pricing at €7.50 per widget, which is a 6.25 percent reduction for the customer, your price in dollars is $10.13. Because of the weakening of the U.S. dollar, your export firm can stay competitive in foreign markets. Stronger currencies, according to Axiory diminish export competitiveness and lower the cost of imports, which can lead the trade imbalance to expand, finally causing the currency to depreciate through self-correction. But before that happens, an overly strong currency may harm businesses that rely on exports.

Flows of Capital

A strong government, a vibrant economy, and stable currencies tend to attract foreign money. To attract international money, a country must have a generally stable currency. Other than that, the threat of currency depreciation-induced exchange rate losses may dissuade international investment.

These capital flows may be classified as either FDI or FPI (foreign portfolio investment). FDI is when foreign investors purchase shares in existing firms or develop new facilities in the receiving market.


FPIs, on the other hand, are hot money that can leave a nation fast if the going gets bad. Unfortunate events like devaluations of currencies might trigger capital flight.

Inflation

“Imported” inflation can occur from a depreciated currency in nations that are large consumers of goods. To go back to the initial pricing point, a sudden 20 percent fall in the native currency would mean that imports would cost 25 percent more.

Rates of Interest

Most central banks examine exchange rates when determining monetary policy. It was announced in September 2012 that Mark Carney was taking the Canadian dollar’s continued strength into account when determining monetary policy at the Bank of Canada (BoC). For Carney, Canada’s monetary policy has been “exceptionally accommodating” for so long because of the Canadian dollar’s strength.

A strong local currency has the same effect as tighter monetary policy on the economy (i.e. higher interest rates). It is also possible that the situation will be worsened by drawing hot money from overseas investors seeking better yielding investments at a time when the native currency is already strong (which would further strengthen the domestic currency).

Conclusion

These are the importance of foreign exchange market for country’s economy. Once you have some knowledge on foreign exchange market, you can learn about what is Forex trading? for planning your vacation trip or for earning money through trading.

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