Currency Exchange Rates
April 21, 2008 by Stephen S Alison
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For centuries the value of the currencies of many countries was backed by physical gold. The paper money in actual circulation was supported by its calculated equivalent in gold which was held physically in the respective government’s vault. Consequently, the currency exchange rates of major currencies vis-à-vis other currencies, maintained and supported as they were by the equivalent values in physical gold, were both fixed and relatively stable.
The use of gold in this way became known internationally as the ‘gold standard’. Britain, for example, adopted the gold standard in 1840 but this collapsed after the First World War due to inflation and recession and was replaced by the Bretton Woods system which entailed partially fixed exchange rates. This arrangement worked for some time as currency+exchange+rates" rel="tag">currency exchange rates against the dollar, which was still pegged to gold, were agreed and fixed.
By the early 1970s, inflation in America and massive financial deficits caused by the Vietnam War and rising oil prices resulted in the demise of the Bretton Woods system. Currency Exchange Rates were now dictated not by gold but by market forces and many countries either supported their currency by intervening in the market or allowed them to “float” and to find their natural or perceived market value against other currencies.
As a rule of thumb, market forces then determined a country’s exchange rate by the balance of trade i.e. by the monetary value of its reported exports to or imports from other countries. Consequently, the currency exchange rate of many countries became very volatile and rose and fell sharply as exports and imports increased or decreased. This exchange rate volatility was aided and abetted by the periodic monthly reporting of export statistics and other financial data by several countries – an event that was eagerly awaited by the market. And many currencies were actively bought and sold in anticipation of a balance of trade deficit or surplus.
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