This article explains some of the major factors that affect currency values and forex rates at the foreign exchange market.
Forex rates determine how currencies are to be exchanged in the foreign exchange market. Forex traders have to constantly look out for favourable forex rates that will bring them good profits. As currency prices fluctuate in the forex market, the foreign exchange rates also rise or fall accordingly. In order to be a successful forex trader, you must know that factors that influence forex rates and how they bring about changes in the foreign exchange market. Many of these factors are related to the economy and include various economic indicators. Forex rates can also be influenced by human behaviour, especially when traders start trading out of fear.
Forex rates and the economy
Whenever a country raises interest rates, it becomes very attractive to investors who come in large numbers to invest in that country. This is because high interest rates translate into very good returns on investment. There will be a high demand for the country’s currency in the foreign exchange market and this will cause its value to appreciate. The increased value of the currency will also be reflected in the forex rates.
Inflation rates are also another significant economic factor affecting forex rates. High inflation implies that a country’s currency has low purchasing power therefore investors will not want it. The value of such a currency will fall in the markets. When the inflation is low, goods are relatively cheap in a country and this will increase the demand for its exports. The increased demand for the country’s export also increases the demand for the country’s currency in the foreign exchange market thus driving up its value relative to other currencies. Central banks sometimes intervene to curb rising inflation rates in their countries by raising interest rates. This usually works well for the currency in the forex market due to the increased demand from investors.
Whenever some economic news is about to be released, forex traders start speculating on what the news will say and how it will affect the forex market. During this time, there are usually many rumours also doing the rounds. The end result is that there is a lot of speculative trading in the markets and this affects forex rates. If traders think that the economic news is going to favour a certain currency, they will start buying up that currency and thus the price will rise sharply. In case the news does not turn out as expected, there will also be a lot of frantic activity as traders seek to offload the currency. In most instances, this flurry of activity is just ‘noise’ that should not be a cause for worry. Experienced forex traders know this and usually remain calm during such periods.
Countries trade a lot with each other on the international trade and this also affects forex rates. Generally, it is cheaper to buy a country’s goods using their own currency. Therefore, countries whose exports are in high demand will also experience a high demand for their currency in the foreign exchange market. If a country is having a trade surplus, its currency will do very well in the forex market while a trade deficit will hurt the currency value.
Sometimes the currency value of one country can be affected by the economic conditions in another country. For example, there is a lot of trade between Singapore and its neighbour Malaysia so the economies of both countries will affect each other’s currency. The U.S. dollar is widely traded in just about any country in the world. Therefore, any news touching on the U.S. economy will affect the U.S. dollar and have a significant effect on forex rates for many currency pairs.
Get a free Forex PDF PLUS:
- 14 Video Lessons
- Free One-on-One Training
- A 5000$ Training Account
- In-House Daily Analysis
- Get FULL ACCESS