6.3 Foreign Exchange Rates (Cambridge (CIE) IGCSE Economics)

A devaluation occurs if the central bank decides to change the peg in a fixed exchange rate system and decrease the strength of its currency.

If a country increases its interest rate, demand for its currency by foreign investors increases, causing the currency to appreciate.

If the interest rate decreases, the supply of the currency increases, causing it to depreciate.

As inflation in a country rises relative to others, its exports become more expensive, decreasing demand for its currency and causing it to depreciate.

Foreign direct investment (FDI) into a country creates a demand for its currency, leading to appreciation.

FDI by the country's firms abroad creates a supply of its currency, leading to depreciation.

An increase in net exports in a country results in an appreciation of its currency, while falling net exports result in a depreciation.

Speculation occurs when traders buy a currency in the expectation that it will be worth more in the short to medium term, at which point they will sell it to realise a profit.

An increase in the number of MNCs globally results in more money flows between countries, each of which influences exchange rates.

A depreciation of the currency causes exports to be cheaper for foreigners and imports to be more expensive. This potentially improves the current account balance (depending on the price elasticity of demand for exports and imports).

A depreciation that results in an increase in net exports will lead to economic growth, while an appreciation will have the opposite effect.

If depreciation leads to an increase in exports, unemployment is likely to fall as more workers are required to produce the additional products demanded. An appreciation of the currency will have the opposite effect.