Question

How currency exchange rates are determined in markets?

Answer 1

The demand for foreign currency rises in the following situations:

1. When price of a foreign currency falls, imports from that foreign country become cheaper. So, imports increase and hence, the demand for foreign currency rises. For example, if price of 1 US dollar falls from Rs 50 to Rs 45, then imports from USA will increase as American goods will become relatively cheaper. It will raise the demand for US dollars.

2. When a foreign currency becomes cheaper in terms of the domestic currency, it promotes tourism to that country. As a result, demand for foreign currency rises.

3. When price of a foreign currency falls, its demand rises as more people want to make gains from speculative activities.