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HomeHomework HelpeconomicsExchange Rate Theory

Exchange Rate Theory

Exchange Rate Theory and Practice refers to the study of how currencies are valued relative to one another and the mechanisms that influence these valuations, including economic indicators, market sentiment, and government policies. It encompasses both theoretical frameworks that explain currency fluctuations and practical applications in foreign exchange markets.

intermediate
4 hours
Economics
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Overview

Exchange rate theory is essential for understanding how currencies are valued in the global market. It encompasses various factors such as economic indicators, market sentiment, and government policies that influence currency fluctuations. By grasping these concepts, students can better analyze inte...

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Key Terms

Exchange Rate
The price of one currency in terms of another currency.

Example: 1 USD = 0.85 EUR

Floating Exchange Rate
A currency value determined by market forces without direct government or central bank intervention.

Example: The value of the Euro fluctuates based on supply and demand.

Fixed Exchange Rate
A currency value pegged to another major currency or a basket of currencies.

Example: The Hong Kong Dollar is pegged to the US Dollar.

Purchasing Power Parity (PPP)
An economic theory that compares different countries' currencies through a market 'basket of goods' approach.

Example: If a burger costs $5 in the US and £4 in the UK, PPP suggests the exchange rate should be 1.25.

Inflation
The rate at which the general level of prices for goods and services rises.

Example: If inflation is 2%, prices increase by 2% over a year.

Interest Rate
The amount charged by lenders to borrowers for the use of money, expressed as a percentage.

Example: A bank offers a 3% interest rate on savings accounts.

Related Topics

International Trade
The exchange of goods and services between countries, influenced by exchange rates.
intermediate
Foreign Exchange Market
A global decentralized market for trading currencies, where exchange rates are determined.
advanced
Macroeconomic Indicators
Statistics that indicate the overall economic performance of a country, affecting exchange rates.
intermediate

Key Concepts

Currency ValuationSupply and DemandFloating vs Fixed RatesPurchasing Power Parity