Foreign exchange rates fluctuate on a minute by minute basis in response to demand and supply. Global currencies, just like goods (like gold or silver) and services, have their own markets. This means there is a certain amount of dollars the USA can make available for the European Union, and a certain amount of dollars the European Union (EU) wants from the USA.
The price at which this amount is determined is referred to as the nominal exchange rate. If the nominal exchange rate is high, EU demand for the US dollar drops, while the USA wants to make more of its currency available during this phase. An equitable exchange rate is achieved when the supply of US dollars meets the demand for it.
If the supply increases or the demand drops, this nominal exchange rate depreciates. The converse holds true when supply drops and demand increases.
Euro and dollar rates are determined largely owing to changes in the demand/supply pattern. These changes are influenced by:
- Speculation: Many people in the Forex market who buy and sell currencies to make money do so on the basis of what speculators say. Predicted outcomes on exchange rates have a huge outcome on the sale and purchase of dollars and Euros, which in turn leaves a mark on a currency’s appreciation or depreciation.
- Trading: The demand for the US dollar is largely dictated by the EU demand for American exports, while the supply of the US dollar is influenced by the American demand for EU imports. If there is decline in interest for buying American goods, demand plummets, and the dollar depreciates.
Euro and US dollar exchange rates are also determined on factors such as a country’s debt and/or economic situation and the interest rates of the central bank. The sum of all the above mentioned factors determines currency prices at any given time.