The values of currencies fluctuate over time. Even for currency pairs that move sideways over a certain period, their value eventually moves up or down when given enough time. But what causes these changes in the rates? We share some of these factors with you in the list below. Let us get started with...
1. Interest rates. Every week, we post upcoming economic news from around the world. And one of the most awaited news is that of interest rate decisions. Announced by central banks, a change in the interest rate could have a profound impact on a currency. If for example a central bank decides to cut rates, this would generally lead to a weaker currency since investments would move to a currency that provides higher interest rates (which translates to bigger yields for them).
2. The economy. Investors naturally want to invest their money in economies with fast-paced growth. Because of that, countries suffering from various economic crises tend to have weaker currencies and vise versa. It is no wonder then that the Euro and US Dollar have suffered after the global economic crisis.
3. Inflation. Aside from interest rates, fx traders also look into the inflation rate. In general, countries would increase interest rates when inflation rates rise to prevent the prices of goods from spiraling out of control. The higher interest rates would then attract investors who want to get a bigger yield from their investment.
4. Political instability. When a country experiences political turmoil, this drives investors away, among other things. And with decreased investor confidence also comes the diminished value of the currency.
5. News that affect commodity currencies. Commodity currencies are those that rely heavily on export of raw materials to generate income. An example of which is the Australian dollar. Australia mainly exports iron ore, coal, and liquefied natural gas to China. Thus, when China's demand for these materials decreases, so will the value of the Australian dollar.
6. Natural disasters. When a major natural disaster affects a country, that country's government would create measures to kickstart the economy again. They may choose to lower interest rates, for example. While this move would help the country recover, the flipside is that the lower interest rates could also cause investors to move their money to countries with higher rates. Recovery could then come at the cost of a weakened currency in the affected country.
There you have it, some the factors that can affect currency rates. These factors are especially important if you are a fundamental analyst, as these events could provide clues on the movement a particular currency would take. For more trading tips, check out our fx trading tips section.
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