Factors Influencing The Exchange Rate

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Factors influencing the exchange rate

There are a several factors which can influence the exchange rate of a given country such as interest rate of a country, inflation rate and money supply. In some reason non-theoretical or non-economical factors can influence the exchange rate to appreciate or depreciate against the other currencies.

1. Inflation rate

How price and inflation rate can affect the exchange rate can be explained by Purchasing Power Parity (PPP) theory. In other words, PPP theory suggests that, in a long-term domestic inflation can influence the exchange rate. For example, a country with lower inflation exhibits an increasing currency value, as its purchasing power increases relative to other currencies. Countries with higher inflation rate usually meet depreciation of national currency since their trading partners have lower inflation rate and more appreciated currency.

2. Current account balance ( The balance of payments)

The balance of payments, as from view of foreign contractors, increases the demand for the national currency’s exchange rate. If there is ...

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