Foreign Exchange Market Mechanisms & Conventions
The foreign exchange market forex or FX, or currency market is a worldwide global decentralized financial market for trading currencies. Financial centers around the world function as anchors of trading among a wide range of different types of buyers and sellers around the clock, with the exception of weekends. The foreign exchange market influences the relative values of different currency.
The foreign exchange market attends to international investment and trade by allowing currency conversion. For instance, it permits a business in the United States to import goods from the European Union member states especially Euro zone members and pay Euros, even in spite of the fact that its income is in United States dollars. It also supports direct speculation in the value of currencies, and the carry trade, speculation on the change in interest rates in two currencies,
In a typical foreign exchange transaction, a party buys a total of one currency by compensating a total of another currency. The modern foreign exchange market began forming during the 1970's after three decades of government restrictions on foreign exchange transactions, when countries gradually switched to floating exchange rates from the previous exchange rate authorities, which remained fixed as per the system of Breton Woods.
The foreign exchange market is unique due to the following reasons:
ñ Its huge trading volume constituting the most prominent asset class in the world leading to high liquidity;
ñ Its continuous operation: 24 hours a day excepting weekends.
ñ The variety of components that affect exchange rates.
ñ Its geographical distribution.
ñ The low margins of relative profit compared with other markets of fixed income and
the employment of leverage to enhance profit and loss margins and with respect to account size.
components influencing the variation in exchange rates of currencies are mentioned below:
ñ Inflation rates
ñ Level of activity and employment.
ñ Balance of Payment position
ñ Interest rates
ñ Volume of international reserves
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