Exchange rates are a term used in finance. Different states have currencies with distinct values. Generally, due to the international trade, money must be exchanged. This is done depending on the worth of one currency compared to the other. Money can be exchanged in two distinct forms. The first one is instant exchange rate where money is exchanged immediately. Secondly, there is forward exchange where the money is not instantly exchanged but it is to be done later. Classification of money exchange rates is further done into two categories namely: set and floating rates.
In set rates, a state decides the value of its currency in comparison to the other currencies from different states according to some universal regulations. On the other hand, under floating rates the worth of a currency is determined by demand and supply forces. There are various factors that influence exchange rates. To commence with, capital mobility has greatly influenced. When a nation borrows money from another in form of loan, it gets it in form of foreign currency. The lending nation’s currency (Bowen 1998) gains demand.
If the lending nation does this severally to different countries, the demand rises further. This in deed leads to increment to its value as compared to the other states that have been borrowing hence the rate of exchange consequently shoots up. On the same note, a country’s currency value can be advanced by allowing many people to invest in the country. This can be facilitated by increasing the amount of interest on the principal amount of money invested (Leontief 1953). The country can allow people to buy shares and other securities and give them good returns.
This is because the money of the country where investment is being done will be highly demanded hence the increase in its value. In addition, monetary policy has caused change in exchange rates. When prices change of certain gods and services in a certain nation, this lends to change in the rate of exchange of its currency. If the price of commodities and services provided by a country go up, then the amount that is exported decreases. This means there will be less demand of the nation’s currency hence decline in its value.
Price decline will definitely attract more buyers from other countries; hence increase in its currency value due to more exports (Krugman 1988). When there is speculation of an expectation of future currency fluctuation, demand of the currency changes. A rumor might be heard that there is an expectation for a currency to rise in the near future. This will ignite people to buy more of the currency before its value increases. Speculations many a times cause an immediate rise in price of a currency due to the abrupt demand increase.
These speculations add advantage to the country’s currency because the expected rise in its currency does not automatically change, it might be followed by decline hence loss to those who expected to sell it. To add on, exchange rates are influenced by the amount of goods a country imports and exports. In times of high importation, the value of the currency goes down. This is because a lot of the currency is spent as payments are being made. If it exports more commodities and services, this is good since it increases the value of the currency.