Currency Fluctuations on Economy : What cause Currency to Fluctuate

Currency fluctuations are a natural outcome of floating exchange rates. Numerous factors are influence exchange rates including a country’s economic performance, the outlook for inflation, interest rate differentials, capital flows. A Currency exchange rate is typically determined by the strength or weakness of the underlying economy.

Currency

Key points:

The large Currency moves impacting financial markets include the Asian Financial market and the Japanese yen carry trade.

Currency exchange rates can economic growth, capital flows, interest rate, inflation, and merchandise trade.

Investors should hedge their foreign currency risk via instruments such as futures, options, and forwards.

Currency impacts:

Many people do not pay attention to exchange currency rates because rarely do they need to. The typical people’s daily life is conducted in their domestic currency. Exchange rates only come into focus for such as foreign travel and transactions, import and export payments.

The value of the domestic currency in the foreign exchange market is a consideration for central banks when they set monetary policy. An international traveler might for a strong domestic currency because that would travel to Europe inexpensively. While some might prefer a strong-weak currency can result in more economic benefits.

Currency impact on the economy:

level of the currency impacts the economy in the following ways:

Capital Flows:

There are two types of capital flows: foreign direct investment and foreign portfolio investment. The foreign direct investment in which foreign investors to take stakes in existing compor build new facilities in the market. Foreign portfolio investment in which foreign investors buy, sell, and trade securities in the recipient market. FDI is a critical funding source for growing economies such as China and India. Foreign capital tends to flow into countries that have dynamic economics, strong government, and stable currencies. This capital flight can be sparked by a negative event, such as the devastation of the currency.

Economic Growth:

The main formula for an economy is the GDP formula.

GDP=C+I+G+(X-M)

From this equation, it is clear that the higher the value of the exports, the higher a nation’s GDP, with the strength of the domestic currency.

Merchandise trade:

This refers to a nation’s imports and exports. A weak or strong currency can contribute to a nation’s trade surplus over time. A weak US dollar allows your export business to remain competitive in international markets. A strong currency can reduce export competition and make imports cheaper, export-dependent industries can be damaged by a strong currency.

Inflation:

A sudden 20% decline in the domestic currency could result in imports costing 25% more, as a 20% decline means a 25% increase is needed to get back to the original price point.

Interest rates:

Exchange rates are a key consideration for most central banks when setting monetary policy. A strong domestic currency expert’s drag on the economy, achieving the same result as a monetary policy. Further tightening of monetary policy at a time when the domestic currency is already strong, exacerbate problems by attracting hot money from foreign investors seeking higher-yielding investments.

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