I have never really understood how $1 is equal to x amount in another currency. Ik how metric and imperial systems can be converted to each other as length, weight, etc. can be measured. So how is money measured? And why does the currency rate keep fluctuating everyday?
In: Economics
That’s why they fluctuate.
Lets say a coke costs $1 in the usa, and 75 pence in the UK, well then since we have the same item with two different prices we can assume that $1 will buy just about as much as 75 pence in the UK, and so that is what people will exchange it for.
But sometimes, currency exchange is also based on not only what is happening, but what people THINK will happen. In Venezuela they are having a terrible time with their economy due to financial mismanagement by the government and corruption. So if you wanted me to exchange my dollars for Venezuelan money, the Bolivar, I’m not going to do it. In fact, it gets harder and harder each month to find people who are willing to do an exchange like this, so the people who need dollars are having to offer more and more Bolivars in order to get someone to give them dollars. The reason is that the people with dollars are thinking the Bolivar will eventually become worthless and not be accepted anywhere if a civil war breaks out or something like that.
So it’s like that to a lesser degree with all currencies. Some are strong and stable, some have problems. Some governments you trust, and some you don’t. So depending on what is going on with each country, people have more confidence or less confidence in their currency and what it will buy in a month, or six months, or a year, or ten years. So that affects their willingness to exchange what they have for what someone wants to offer them. Hence the price fluctuations.
Non-Pegged currency is just a commodity like eggs, or gold, or a goat. Their value is derived from how much people are willing to buy and sell them for.
As such the free market will settle on a price that is about what buyers and sellers think the currency is worth. Typically this is a rough indicator of the strength and stability of the economy that currency belongs to and how much people think that currency will be worth later. Countries with steong economies and an active trading scene will attract investors and merchants and businesses and they want to buy currency. Weaker economies don’t offer the same business oppertunities so fewer people are buying that currency.
Think of it like the stock market. The stock market is a place where you can buy a small piece of a company. The price you pay for that share of a company is based not only on the value of the company, but also on how you think the company is going to do in the future. If you were offered a share in company A, which you know will be successful, and company B, which you know will fail, you will feel that owning a part of company A is more valuable than company B.
Currency markets are the same thing, but instead of companies, you are betting on the economy of different countries. Countries with a prospering economy become more valuable, while countries with an economy in recession are less valuable.
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