Foreign Currency Exchange Marketplace – A Vital Element Of The Worldwide Economic System

Posted on | February 22, 2009 | Leave a Comment

The complex world of foreign currency exchange

The foreign currency exchange market is one of the most critical constituents of the modern economy, and is significantly different from the other major market, the stock exchange. The stock exchange is highly organized with very clearly defined transaction mechanisms, timings and clearing processes. Forex market meanwhile, works mostly on trust based deals between two parties and is not governed by any timings. Out of the about $3 trillion worth of daily transactions taking place in the foreign currency exchange market of the major world economies, most are based on trust between the two parties. Hedging allows dealers to manage the risk arising out of the trust factor in a forex transaction.

London accounts for the highest amount of foreign currency exchange transactions and is recognized as the centre of the Forex market. Two important reasons have made London the leading forex market. London was the centre of the world for almost two decades of the British Empire, and was the hub for financial trading. Post British Empire, New York has emerged as the leading city in the world of finance but in terms of foreign exchange, London has held to its number one position. The second important reason is owing to the fact that London lies between Asia and America, and hence bridges the time zone gap between the two leading economies of the world, USA and Japan, thus becoming the most convenient location for transactions involving parties from the two countries.

For most big countries, foreign currency exchange rates are determined just like any other commodity – through demand and supply of the currency. The health of a country’s economy, as well as its trade with other countries plays a big role in determining its currency’s exchange rate. As economic conditions change, they also project themselves on the exchange rate of a country’s currency. Economists use data from around the world to make predictions on the outlook of the economy. These predictions on the economy when tested in present, depending on their nature affect the foreign currency rates.

That however does not mean that the governments have no control over the rates of their currency. Amongst several ways in which the governments can affect the exchange rates, changing interest rates and issuing bonds are the key ones. In the UK, decisions with regards to changes in interest rates are taken by Monetary Policy Committee (MPC) of the Bank of England, and this is often used to exercise control over the foreign exchange rates. Increase in interest rate by the MPC usually leads to a stronger pound, and similarly when the interest rate is lowered, the pound weakens.

Foreign currency exchange management gains huge significance in today’s highly integrated global economy. An increasing number of companies are getting engaged in overseas business and require foreign currency exchange services for international monetary transactions. Moreover, the dynamic changes in exchange rates and trade in more than one currency can make the management of a company’s foreign exchange difficult. There exist several firms that can help the companies manage their foreign exchange related needs effectively and simplify their overseas monetary business transactions.