How currency is valued in international markets

V. Kumar By V. Kumar, 5th Jun 2010 | Follow this author | RSS Feed | Short URL http://nut.bz/b1p9qqgx/
Posted in Wikinut>Money>Forex Trading

The strength of a particular currency in international market is determined by its demand and supply. The Central Banks usually allow th ecurrency to fluctuate within a narrow band, and intervene when this band is being broken, However, there are times, like the current Euro crisis when the capability of Central Banks is not enough to stop the market forces.

How currency is valued in international markets

The strength of the currency is nothing but the price of that currency in terms of other currencies. In international markets, this price is decided just like the price of any other commodity in the market, by the relative demand and supply. If there are more buyers wanting to buy the currency relative to the amount of the currency available for supply by the suppliers of that currency, the price of that currency will rise, meaning thereby that the currency will strengthen. If, on the other hand, the supply of the currency exceeds what the buyers are wanting to buy, then the currency will weaken, meaning its price will reduce.

The demand for a currency is created by two factors, its exports that the others want to buy, or the investments that people want to make in that currency or assets denominated in that currency. So rising exports lead to rising demand of that currency and consequent strengthening of that currency. Greater capital inflows and investments within from outside have the same effect of increasing demand and strengthening the currency. The effects of falling exports or rising imports are the reverse - they reduce its demand and weaken the currency. Outflow of capital has the same effect.

The currency market is sensitive to both future expectations and speculators. If the economy of a country is not doing well, fewer people will wish to invest there, so the currency of that country will fall. On the other hand if, for some reason, people expect that the currency will fall, they will take their investments out, and so actually make the currency fall.

But the market is seldom allowed to operate freely by the governments, who keep sure that the value of their currencies in the international market do not fluctuate too much. Generally they decide a band in which they want their currencies to remain, and then, through their central banks or monetary authorities, they intervene in the market to ensure price remains where they want it to be. So if on a particular day, the value of the currency is falling more than what is acceptable, the concerned central bank starts buying the currency. If the currency is appreciating too much, it starts selling it.

In the end, most Central Banks ensure that their currency keeps within a particular band. When there are massive economic changes, like the on-going events in case of Europe, this band needs to be adjusted on a frequent basis by the Monetary agencies. In cases, the force of market sentiment becomes far overpowering than the ability of the Monetary agencies to control the value of their currency.

Tags

Central Banks, Currency, Exchange Rates, Forex, Monetary Interventions, Value Of Currency

Meet the author

author avatar V. Kumar
I am a free lance author who writes for the sake of expressing myself. I like to share what I know and learn from the experiences of anyone willing to share it.

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Comments

author avatar Ashraf
23rd Jul 2011 (#)

thank for this beautiful article.

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author avatar Adithya
3rd Jul 2012 (#)

Thanks for you valuable info. Please could you also let us know on what basis did the initial value or say band is decided for any currency. Eg; like India it is around 40-50. Why only 40-50 why not 20 or something else

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author avatar Sanjay
10th Sep 2012 (#)

If india starts exporting more its currency will not become strong , this applies to few strong countries right?

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author avatar Gourav
19th Sep 2012 (#)

satisfied.keepwriting.

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author avatar Harbandana bedi
30th Nov 2012 (#)

Does the world bank has any role in deciding the price of currency in the international market

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