Exchange Rate
An exchange rate is the rate at which one currency can be exchanged for another. It represents the price of one currency expressed in terms of another and is a central variable in international economics, affecting trade, investment, and the relative prices of goods and services across countries.[1]
Definition
The exchange rate between two currencies specifies how much of one currency is required to purchase one unit of the other. Exchange rates may be nominal or real, and may be determined by market forces or set by governments.[1]
Types
| Type | Description |
|---|---|
| Nominal Exchange Rate | The rate at which currencies are actually traded. |
| Real Exchange Rate | The nominal rate adjusted for relative price levels between countries. |
| Spot rate | The rate for immediate (or near-immediate) exchange. |
| Forward rate | The rate agreed for exchange at a future date. |
Exchange rate regimes
Countries may operate under different exchange rate regimes, ranging from a floating rate determined by market forces to a fixed rate maintained by central bank intervention, with various intermediate arrangements in between. The choice of regime has important implications for monetary policy independence and for the economy's vulnerability to external shocks.[1]
Determination
Under a floating regime, exchange rates are determined by the interaction of supply and demand for currencies, driven by trade flows, capital flows, interest rate differentials, and expectations. Theories of exchange rate determination include purchasing power parity, interest rate parity, and the balance of payments approach.[1]
See also
- Nominal Exchange Rate
- Real Exchange Rate
- Purchasing power parity
- Foreign Exchange Reserves
- Balance of Payments