What is Foreign Exchange?
Foreign exchange refers to exchanging the currency of one country for another at prevailing exchange rates
Let us take a close look at the meaning of foreign exchange. Different countries have different currencies. Foreign exchange converts the currency of one country into another.
Now, let’s find an answer to what is forex? Foreign exchange is also called forex in short.
We have seen what foreign exchange is. We will go through the advantages of foreign exchange. Foreign exchange is required for international trade. When India is trading with the United States (US) both INR and USD are involved. If India is importing from the United States, it needs to pay in dollars. When the US is importing from India it would need to pay in rupees. Foreign exchange is also important when a country is investing in another. If the US is investing in India, it has to invest in rupees. Such transactions create a demand for foreign exchange. This is why the foreign exchange market is important.
Forex markets: In foreign exchange markets, currencies are bought and sold. In reality, foreign exchange is traded virtually 24X7. Forex is the world’s largest market. Everyday trillions of dollars of transactions are done. The foreign exchange financial market is the most liquid in the world. Traders in this market involve several institutions. The institutions could be the government, central banks and commercial banks. It would also involve institutional investors, forex agents, individuals, and other businesses.
So far, we have discussed the real economy foreign exchange. There is also a speculative foreign exchange market. Here, currencies are bought and sold based on speculation. Speculation is based on the value of one currency with respect to another. If traders believe the value of a currency will go up, it will see more investment. These investments will increase the value of the currency.
How is a currency valued? A currency of a country is valued according to supply and demand. So, it always is in a state of flux. Such kind of exchange rate is known as floating exchange rate. This is the case in a free economy.
Similarly, the value of a rupee is determined by market forces. Factors like imports and exports, interest rates and inflation affect the value of the rupee. It would also depend on political conditions, internally and internationally. Tourism is another factor which influences foreign exchange value. This is why large companies have strategies to manage currency. The idea is to protect their business from currency fluctuations.
Importance of forex when travelling abroad: While going on a trip abroad, one needs to have the currency of that country. If you are going to the United States, you need US dollars. If you are travelling to the UK, you need pounds. You can covert rupees into the given foreign currency. This service is available with banks, travel agents, and foreign exchange agents. One part of this is the exchange rates offered. They charge you a transaction fee too. It is advisable to exchange your currency at a bank or with an agent. Banks will offer you competitive rates if you are a premium customer. Foreign exchange at the airport should be the last resort as it is the most expensive.
A traveller may also use forex cards. A forex card is a prepaid instrument. You can load it with single or multiple currencies. This is a safer and a more convenient option than carrying cash.
Whether it is international trade or your summer holiday, forex plays an important role.