Exchange rates: and the Utah exporter.

AuthorMatthews, Kelly K.

EXCHANGE RATES and the Utah Exporter

The foreign exchange market determines a currency's relative value. As in any free market, the interaction of supply and demand sets the price. While there are various forms of governmental intervention, exchange controls, and other imperfections, market forces are usually the most important influence impacting exchange rates.

The demand for a particular currency is derived from the international demand for that country's goods, services, and financial investment opportunities. The supply of currency is primarily reflective of domestic monetary policies. The inflation rate is important for determining how the available supply of any particular currency matches up with demand. If the currency's supply exceeds demand, domestic prices will rise, and the exchange value normally will depreciate. Consequently, the international price of that country's goods and services will cheapen, and real investment returns will diminish. Inflation measures a currency's purchasing power compared to its own past value; exchange rates measure a currency's purchasing power relative to other currencies. Accordingly, the differences in inflation rates from nation to nation are key factors in understanding exchange-rate movements.

At any particular time, it is impossible to know the "true" exchange value. Frequently, the foreign exchange market over-corrects or exceeds what would analytically appear to be appropriate currency relationships in a purchasing-power comparison. The market, however, trades on expectations of future events rather than simply reflecting known historical and current realities. Therefore, the market-determined exchange relationships at any specific point may be "right," since they reflect the traders' consensus of future developments.

Setting Economic Policy

With respect to the U.S. dollar, exchange rates are an important component in monetary and economic policy considerations. If dollar exchange rates are very high, as they were in 1984 and 1985, U.S. products are expensive, and export industries are adversely impacted by enhanced competitive pressures and reduced export earnings. Conversely, when dollar exchange values are very low, U.S. exports are highly competitive. In this circumstances, however, domestic inflation and interest rates are very often rising, and dollar-denominated financial and real assets are cheap for foreign investors. Excessive exchange-rate swings in either direction are...

To continue reading

Request your trial

VLEX uses login cookies to provide you with a better browsing experience. If you click on 'Accept' or continue browsing this site we consider that you accept our cookie policy. ACCEPT