Unit International Payment Flows Understand the components of International Currency Exchange

INTERNATIONAL CURRENCY Money Money: a medium of exchange used by a society Money can store value and act as a unit for accounting. Over time money has made a transition from silver or gold coins that had real value to notes and coins that represent value because they are backed by gold or something else of value. Today, most money acts as a means of exchange without any real value Money has value only because the people who use it believe in it Currency is the term used for money in international market. 192

Types of currencies in international markets I n the international market money is categorized into two types of currencies. hard currency  has the confidence of international traders  comes from economically and politically stable countries.  Ex: the British pound, The Euro, US Dollar soft currency  not acceptable for international exchange  unrealistic exchange rates  economic or political instability within a country.  Ex: Mexican peso  – hard and soft 193

The Law of Supply and Demand The law of supply and demand attempts to explain how changes in the demand and quantity of goods sold in competitive markets impact a price. Generally, if there is a low supply and a high demand, the price will be high. In contrast, the greater the supply and the lower the demand, the lower the price will be. song detail 194

The Law of Supply and Demand (cont.) The law of supply and demand is not an actual law but it is well confirmed and understood realization that if you have a lot of one item, the price for that item should go down. At the same time you need to understand the interaction; even if you have a high supply, if the demand is also high, the price could also be high.

The Law of Supply and Demand (continued) demand  the quantity of a good or service that consumers are willing and able to buy at a given price supply  the quantity that producers are willing to offer at a given price. 196

The Law of Supply and Demand (continued) The changes in demand and supply are based on the: nature of the product nature of competition and the needs of buyers and sellers

The Law of Supply and Demand (continued) The law of supply and demand works for most goods and services and also holds true for the global demand for currency. The flow of supply and demand determine the flow of trade and thereby contribute to a currency’s supply and demand which results into fluctuating currency exchange rates.

CURRENCY EXCHANGE RATES The ratio of how much one currency is worth in terms of another currency Also referred as foreign-exchange rate. Example: $1 US = 42 Indian Rupees or 1 Euro = $1.36 US. This means that on a given day 1 US dollar can buy 42 Rupees; or 1 Euro can buy $1.36 dollars Floating currency exchange rates are based on law of Supply & Demand Determined by the demand for a currency and its supply exchange rate 199

Factors effecting Currency exchange rates. The four major factors that influence the exchange rate between countries are: 1. Transactional demand: The amount of economic activity in a country creates transactions—the more economic activity, the more transactions, therefore greater demand for currency 1910

Factors effecting Currency exchange rates...(cont.) 2. Economic confidence: If international investors lose confidence in an economy, they may try to sell the currency holdings resulting in to increased supply of the currency and therefore decreased value of the currency. 3. Money supply: Interest rates effect the bank lending activities. When banks drop interest rates, more money is borrowed resulting into increased economic activities and supply of money. However too low of a interest rate causes inflation and that makes the currency less desirable by foreign investors. 1911

Factors effecting Currency exchange rates...(cont.) 4. speculative demand: Some international investors use forward events(ex: elections) to speculate on future currency rates. 1912

>> Checklist/Exit ticket  Money  Hard currency  Soft currency  Demand  Supply  Exchange rate  The four factors that influence exchange rates 1913