WHAT IS THE MAJOR CAUSE OF CURRENCY FLUCTUATIONS IN A COUNTRY?

THE QUESTION:

Dear Mr. Khugan,

I read your article on currency fluctuation. ?What is the main reason behind currency fluctuation and how does it affect the economy of the country? ?

N. Murugese

THE ANSWER:

Thank you for reading my article Murugese. Now to elaborate on your question. Honestly the explanation is going to be quite lengthy. So I will try and explain the first part of your question first. I will answer the second part of your question in another article.

One of the main reasons as to why currency fluctuations take place is Weak Exports. When the goods exported from a country are weak, they rely on IMPORTING more goods and necessities. Thus Weak Exports can contribute heavily to the fluctuations of a country’s currency.

The other factor can be broken down into several parts. There is an interconnected relationship between the country’s exports and its currency and they are influenced by several factors as given below:

1.?? THE IMBALANCE OF TRADE - ?When a country consistently experiences weak exports, then it comes into a Trade Deficit (This where the value of the Imports of the country supersedes the value of exports). When we are importing more, it puts a declining pressure on the demand of the country’s currency as the trading currencies take precedent such as the US Dollar as they are used to pay for the imported goods.

?2.?? THE REDUCTION OF FOREIGN EXCHANGE (FOREX) RESERVES - When exports are low, the Government needs to finance the difference in trade deficits. This usually means the foreign exchange reserves are used more. Eventually the price of acquiring the FOREX reserves becomes more expensive till the exports stabilize. However, if the Weak exports still continue then it further depletes the existing FOREX reserves and that directly affects the currency stability.

?3.?? INTEREST RATES CHANGE BASED GROWTH - When a country's currency is losing value, the central bank often faces a decision regarding whether to raise or reduce interest rates. The choice depends on the central bank's goals, economic conditions, and the factors contributing to the currency depreciation. The weaker the exports the challenging it becomes for the Central bank to decide on issues such as to raise the interest rate to get foreign Investors of or lower, to avoid inflation.

?4.?? BUSINESS BANK ACCOUNT MAINTENANCE - ?To me this is a major issue as I have seen this happen with several of my clients. With the prolonged weakness in exports, it affects the trade payments and current account balance of traders. Obviously, when you have to pay higher for goods and services then your margins are automatically affected, and you cannot maintain the minimum balances in your account as required by some banks when issuing loans. This not known to many people as a major negative factor in determining currency value.

Well Muru! I hope I have managed to answer the first part of your question to some extent. Please look out for your second part answer soon, if you have any further questions please do not hesitate to email /WhatsApp me.

Best Regards Always,

Khugan