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Thread: What affects the exchange rate?

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    nickydwuk's Avatar
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    Default What affects the exchange rate?

    I know no one can predict what the exchange rate will do in the future but I was wondering if any of you finance whizz kids out there can fill me in on what affects the exchange rate? What needs to happen to make the rate for /NZ$ improve past $2? I know the whole global economy is in deep poo poo but how can the exchange rate recover to a decent level?
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    I'm like you, Nicky, and haven't a clue about what makes the world's finances bob up and down. According to hubster though, it all depends on how well a country is doing with, amongst other things, its trading with other countries which reflects the gross national product i.e. how much a country can earn in a particular year. Taking the UK, as it gets stronger financially, so the GBP would get stronger against the NZD. It's also linked to how much money a country is printing - if a country is having difficulties, it prints more money, which devalues its currency. If the value of the GBP to NZD is to improve, then the UK needs to improve its performance. NZ and Oz have been less affected by the ongoing problems in other parts of the world, which could be why it's currencies are holding well at the moment. If the NZ economy got into trouble, I guess that would have a similar effect of altering the balance back in your favour.

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    Cool You asked for it.

    nickydwuk

    As a futures trader who trades currencies as well as other things I can give you some insight. Maybe more than you want as it can be quite complex. In simple form it is supply and demand. Same as all markets. If you are doing well everybody wants you, if you are doing bad nobody wants you. So if you want some insight as to your own economic future, look to your currency exchange rate, not the news on how things are really doing. The news tells you what you want to hear, the exchange rate will tell you the real truth every time. It is what the best experts opinion is, no hype, no politics, just the true facts.

    As a important clariifer you need to understand inflation is not where prices go up but your money is worth less. With that detail said now to bore you to death with details read on..............

    Determinants of Exchange Rates
    Numerous factors determine exchange rates, and all are related to the trading relationship between two countries. The following are some of the principal determinants of the exchange rate between two countries. The relative importance of these factors is subject to much debate.

    1. Differentials in Inflation
    As a general rule, a country with a consistently lower inflation rate exhibits a rising currency value, as its purchasing power increases relative to other currencies. During the last half of the twentieth century, the countries with low inflation included Japan, Germany and Switzerland, while the U.S. and Canada achieved low inflation only later. Those countries with higher inflation typically see depreciation in their currency in relation to the currencies of their trading partners. This is also usually accompanied by higher interest rates.

    2. Differentials in Interest Rates
    Interest rates, inflation and exchange rates are all highly correlated. By manipulating interest rates, central banks exert influence over both inflation and exchange rates, and changing interest rates impact inflation and currency values. Higher interest rates offer lenders in an economy a higher return relative to other countries. Therefore, higher interest rates attract foreign capital and cause the exchange rate to rise.

    3. Current-Account Deficits
    The current account is the balance of trade between a country and its trading partners, reflecting all payments between countries for goods, services, interest and dividends. A deficit in the current account shows the country is spending more on foreign trade than it is earning, and that it is borrowing capital from foreign sources to make up the deficit. In other words, the country requires more foreign currency than it receives through sales of exports, and it supplies more of its own currency than foreigners demand for its products. The excess demand for foreign currency lowers the country's exchange rate until domestic goods and services are cheap enough for foreigners, and foreign assets are too expensive to generate sales for domestic interests.

    4. Public Debt
    Countries will engage in large-scale deficit financing to pay for public sector projects and governmental funding. While such activity stimulates the domestic economy, nations with large public deficits and debts are less attractive to foreign investors. The reason? A large debt encourages inflation, and if inflation is high, the debt will be serviced and ultimately paid off with cheaper real dollars in the future.

    In the worst case scenario, a government may print money to pay part of a large debt, but increasing the money supply inevitably causes inflation. Moreover, if a government is not able to service its deficit through domestic means (selling domestic bonds, increasing the money supply), then it must increase the supply of securities for sale to foreigners, thereby lowering their prices. Finally, a large debt may prove worrisome to foreigners if they believe the country risks defaulting on its obligations. Foreigners will be less willing to own securities denominated in that currency if the risk of default is great. For this reason, the country's debt rating (as determined by Moody's or Standard & Poor's, for example) is a crucial determinant of its exchange rate.

    5. Terms of Trade
    A ratio comparing export prices to import prices, the terms of trade is related to current accounts and the balance of payments. If the price of a country's exports rises by a greater rate than that of its imports, its terms of trade have favorably improved. Increasing terms of trade shows greater demand for the country's exports. This, in turn, results in rising revenues from exports, which provides increased demand for the country's currency (and an increase in the currency's value). If the price of exports rises by a smaller rate than that of its imports, the currency's value will decrease in relation to its trading partners.

    6. Political Stability and Economic Performance
    Foreign investors inevitably seek out stable countries with strong economic performance in which to invest their capital. A country with such positive attributes will draw investment funds away from other countries perceived to have more political and economic risk. Political turmoil, for example, can cause a loss of confidence in a currency and a movement of capital to the currencies of more stable countries.

    Sorry to blast you with both barrels but you asked and that is the readers digest version.....

    Did I give you enough? I can go on, and on and on.

    Cheers
    Cheers

    Cliff

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    NZ Citizenship in 2000, been in NZ 15 years now
    Arrived NZ in 1997 from Las Vegas, Nevada, USA

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    That makes sense, MB and seems a lot less confusing and straight forward than some of the things I have read. Currency fluctuations always have me baffled. I am a mathematician so do not get easily confused with figures etc... but this is one area I cannot understand.
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    Quote Originally Posted by Cliff View Post
    Did I give you enough? I can go on, and on and on.

    Cheers
    Thank you Cliff - I think you gave me enough to be going on with . It may take me a year or two to digest all that and to understand it. I will g et back to you when I need more input
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    nickydwuk

    glad to be of service. The biggest thing is you can begin to see things coming a long way off before before most people do by simply watching the currency flux.
    Cheers

    Cliff

    Nelson, New Zealand
    NZ Citizenship in 2000, been in NZ 15 years now
    Arrived NZ in 1997 from Las Vegas, Nevada, USA

    "New Zealand isn't just a physical place it is a state of mind."

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    SparkUngela is offline Junior Member
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    I also noticed this section below, INZ havnt asked me to provide any information when they sent my application back.



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