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Online Money Guide: Exchange Rates Demystified

Friend or foe, exchange rates impact everything from global trade to our next travel destination. But what exactly is an exchange rate, who sets it, and how does it work? We talked to Andrew Schrage, co-owner of Money Crashers Personal Finance, to find out.

Q: First off, how does the foreign exchange market affect the average citizen on a day-to-day basis?

The foreign exchange market, and more importantly the strength of the U.S. dollar, affects things like everyday purchases such as gas and groceries. It also affects the availability of loans. And the exchange rate can definitely affect you when travelling internationally and purchasing products from another country.

Q: How would you explain the concept of exchange rates?

Exchange rates determine the cost or value of one country’s preferred currency in comparison to another country’s.

Q: Who sets exchange rates?

There is usually a government agency of any particular country which is responsible for setting exchange rates.

Q2: How do exchanges rates work?

What factors affect them?Exchange rates are quoted in terms of one country’s currency as compared to the value of another. The value of different currencies is constantly changing, because they are traded on the open market in real time. They are affected by a wide variety of factors, such as inflation, interest rates, the level of debt in a particular country, along with supply and demand.

Q: What is the difference between floating and fixed or pegged systems?

A floating exchange rate will fluctuate rather often, based on the above and other factors. A pegged rate is fixed, so to speak, in accordance with a different currency as it is generally tied to it. For example, the Saudi Arabia Riyal, Hong Kong Dollar, and Cuban Convertible Peso are all pegged to the U.S. dollar. It still tends to fluctuate, but based more on the behavior of the currency to which it is connected. Countries typically decide on their own whether to go with a floating or pegged rate.

Are there regulations on the foreign exchange market?
There aren’t regulations as such, but each country normally operates under guidelines which affect how, when, and how much of a particular currency can be exchanged.

Q: Why do we need exchange rates?

Exchange rates help gauge the economic health of any one country. They also play a big role in countries trading goods and services with one another.

Q: Why do you get different exchange rates for the same currency at different places?

This really depends upon how often the rates are updated. Not all banks and financial institutions do this on the same schedule, therefore there are times when you will be quoted different rates.

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