All About Currency Exchange And How Exchange Rates Are Determined

All About Currency Exchange And How Exchange Rates Are Determined

Currency exchange occurs when an exchange rate is applied to exchange one currency for another. The rate is based on the value of the currency in one country in relation to another country’s currency. Spot exchange rate is the current exchange rate for that day and can change from day-to-day. Exchange rates inform you how much the currency in your country is worth in another country and can be seen as the price a foreign country charges you to purchase their currency. These prices change constantly and most currency rates are determined by foreign exchange traders and the central bank and governments don’t actually intervene to keep exchange rates fixed. In most countries, according to the ‘managed floating exchange rate rule’ used to determine exchange rates, they only influence but do not regulate, exchange rates.

The Forex market as it is knowns today originated in 1944 after World War II when most currencies assumed a fixed exchange rate that was measured against the US dollar according to the global treaty provisions of the Bretton Woods Agreement. At that time the value of the USD was pegged to the gold standard.

Forex trades currencies 24 hours a day every day of the week without a break. Up to $5.3 trillion is traded on the market every day. Canadians are most likely to exchange dollars for Mexican pesos, European Euros, American dollars, Japanese yen, and British pounds. These countries have flexible exchange rates and for people who do international business, exchange rates can affect their finances. Over the course of a 24-hour period, foreign exchange rates can fluctuate several times.

Three Factors that Affect Foreign Exchange Rates

  1. The demand for a currency depends on what is going on in that particular country. The higher the interest rate paid by the central bank in that country, the more valuable its currency becomes.
  2. Secondly, the money supply in a country is created by that country’s central bank. When too much money is printed it causes inflation and even hyperinflation which is the most extreme form of inflation. Hyperinflation usually happens only in countries with huge war debts. Inflation pushes the value of a country’s currency down.
  3. The financial stability and economic growth of a country will impact its exchange rate. Goods and services from a country with a strong, growing economy will be in demand which will push up the value of the currency.

How to Exchange Currency when Traveling Overseas

When you travel overseas you may want to plan your trip to coincide with a strong dollar when you can buy more foreign currency. At times when the dollar is weak, your trip may cost more, leaving less money to enjoy while on holiday. Booking air flights and hotel accommodation ahead of time will ensure that the cost of your trip does not change since you started planning it. This is one of the ways in which exchange rates can affect personal finances.

The best way to find out is to Google your currency against foreign countries for the current exchange rate. It will show a chart that shows whether the dollar is strengthening or weakening and you can plan your trip accordingly. If the dollar is strengthening you should wait until just before you leave to book your trip and exchange your currency. If you use a credit card you will get the cheapest rate overseas. If the dollar shows a weakening trend, you can pay for your trip upfront and purchase your foreign currency in advance.

Banks normally charge a higher exchange rate but it carries less risk. Unfavorable exchange rates are unfortunately quite common and in some cases, Forex operators at popular tourist locations such as airports are notorious in this regard. Exchanging currency locally is highly recommended but it can also be done by using a currency exchange operator such as Knightsbridge Foreign Exchange.

Credit cards are accepted by some foreign exchange operators, but many do not.