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2. What determines these Exchange rates?

When it comes to determining currency exchange rates or exchange-rate regime as it is called, there are two primary systems used. These are floating currency and fixed currency.

Floating Currency

Also named as the fluctuating exchange rates, these are the most usual case of exchange-rate regime. Most of the stable economic markets like the euro, the United States dollar, the British pound and many other currencies follow this regimen. The main factor that determines the value of the currency under this system is the Market, which is in turn is based upon various factors like inflation rate, foreign investments, Terms of trade (TOT) and other economic factors. The thing that you need to notice here is that these rates differ with every dying second. For instance, at roughly the present period 1$ USD=100 Japanese yen, but this might change to $1 USD = 105 few moments later. Thus, you need to convert the rates before buying or trading your currency.

Pegged Currency

Also addressed as the fixed exchange-rate system, this type of scheme is more suitable for countries with poorly built up or unstable markets. In this type of arrangement, it is called for by the government to decide the worth of its currency in terms of gold or another nation’s currency. It is required by the central bank to make balance between its currency and it’ holdings (gold or the other currencies). To fully understand consider an example Suppose a country ‘X’ decides to set up its currency to dollar at the rate of X/$=10 then this country X needs to keep the dollars as reserve and also should be willing to purchase or sell $ at the fixed rate.


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