Impact of changing exchange rates on exports and imports.pdf
IMPACT OF CHANGING EXCHANGE RATES ON
EXPORTS AND IMPORTS
Dr. Govind Kumar
Ph.D. MBA B.Sc. UGC-NET&JRF
Associate Professor, DYPIMCAM, Pune
How the Balance of Trade Affects Currency Exchange Rates
An increase in the exchange rate reduces the balance of trade
The balance of trade influences currency exchange rates through
its effect on foreign exchange supply and demand. When a
country's trade account does not net to zero—that is, when
exports are not equal to imports—there is relatively more supply
or demand for a country's currency. This influences the price of
that currency on the world market.
Currency exchange rates are quoted as relative values; the price of
one currency is described in terms of another. For example, one
U.S. dollar might be equal to 11 South African rand. In other
words, an American business or person exchanging dollars for
rand would buy 11 rand for every dollar sold, and a South African
would buy $1 for every 11 rand sold.
•The balance of trade (which reflects higher or lower demand for a currency) can
affect currency exchange rates.
•A country with a high demand for its goods tends to export more than it
imports, increasing demand for its currency.
•A country that imports more than it exports will have less demand for its
•Trade balances and, as a result, currencies can swing back and forth, assuming
currencies are floating rather than fixed.
•Currencies that are fixed or pegged don’t move as easily as floating currencies in
response to a trade imbalance.
How Trade Influences the Demand for Currency
These relative values are influenced by the demand for currency,
which is in turn influenced by trade. If a country exports more
than it imports, there is a high demand for its goods, and thus, for
its currency. The economics of supply and demand dictate that
when demand is high, prices rise and the currency appreciates in
In contrast, if a country imports more than it exports, there is
relatively less demand for its currency, so prices should decline. In
the case of currency, it depreciates or loses value.
For example, let's say that candy bars are the only product on the market and
South Africa imports more candy bars from the U.S. than it exports. As a
result, it needs to buy more dollars relative to rand sold. South Africa's
demand for dollars outstrips America's demand for rand.
This means that the value of the rand falls. In this situation, we'll
surmise that the rand might fall to 15 relative to the dollar. Now,
for every $1 sold, an American gets 15 rand. To buy $1, a South
African has to sell 15 rand.
The relative attractiveness of exports from that country also grows as a
currency depreciates. For instance, assume an American candy bar costs
$1. Before their currency depreciated, a South African could buy an
American candy bar for 11 rand. Afterward, the same candy bar costs 15
rand, a huge price increase.
On the other hand, a South African candy bar costing 5 rand has
become much cheaper by comparison: $1 now buys three South
African candy bars instead of two.
South Africans might start buying fewer dollars because American candy
bars have become quite expensive, and Americans might start buying more
rand because South African candy bars are now cheaper. This, in turn,
begins to affect the balance of trade. South Africa would then start
exporting more and importing less, reducing the trade deficit.
Trade Surplus: the amount by
which the value of a country's exports
exceeds the cost of its imports
Trade Deficit: the amount by which
the cost of a country's imports exceeds
the value of its exports.
How Does a Higher Exchange Rate Affect Trade?
When a country's exchange rate increases relative to another
country's, the price of its goods and services increases. Imports
become cheaper. Ultimately, this can decrease that country's
exports and increase imports.
How Is the Value of Currency Affected by Demand?
Increasing demand for a country's goods and services increases
demand for its currency. That, in turn, increases the currency's
What Factors Are Affected by Changes in Currency
Changes in currency exchange rates can affect the prices of goods
and services, the value of currency, and the balance of trade.
The Bottom Line
The balance of trade can affect foreign exchange supply and demand. That can then affect
currency exchange rates. Our example assumes that the currencies are on a floating regime,
meaning that the market determines the value of a currency relative to others. In cases where one
or both currencies are fixed or pegged to another currency, the exchange rate does not move as
readily in response to a trade imbalance.
What is a Hard Currency?
A hard currency refers to a currency that is generally issued by
developed countries, globally traded, and seen as politically and
economically stable. International investors put their confidence
and trust in hard currencies because they will not dramatically
depreciate or appreciate (fluctuate in relative value to other
For the most part, the value of the currency is based on basic economic
principles such as a country’s gross domestic product (GDP) and employment.
Hard Currency vs. Soft Currency
In today’s world, tangible currency is either defined as soft
currency or hard currency.
Hard currency is a stable and reliable form of currency that is
issued by the government and widely accepted around the world.
Soft currency is an unstable form of currency that is
unconvertable, fluctuates erratically, and/or depreciates against
Examples of Hard and Soft Currencies
Examples of some of the most prominent hard currencies are listed below:
•The U.S. dollar (USD)
•The euro (EUR)
•The Canadian dollar (CAD)
•The British pound sterling (GBP)
•The Japanese yen (JPY)
•The Australian dollar (AUD)
•The Swiss franc (CHF)
Examples of some of the most known soft currencies are listed below:
•The Venezuelan bolivar (VEF)
•The Zimbabwe dollar (ZWL)
•Syrian pound (SYP)
•Turkish lira (TRY)
•West African franc (CFA)
•Egyptian pound (EGP)
Comparison of Hard Currencies vs. Soft Currencies
To put the concept of hard and soft currencies into perspective, this example will
compare conversion rates between the U.S. dollar and the soft currencies listed
•USD vs. VEF: One U.S. dollar is worth approximately 10 Venezuelan bolivars.
•USD vs. ZWL: One U.S. dollar is worth approximately 362 Zimbabwe dollars.
•USD vs. SYP: One U.S. dollar is worth approximately 512 Syrian pounds.
•USD vs. TRY: One U.S. dollar is worth approximately 8 Turkish lira.
•USD vs. CFA: One U.S. dollar is worth approximately 557 West African francs.
•USD vs. EGP: One U.S. dollar is worth approximately 16 Egyptian pounds.
Hard Currency Black Market
In some countries, hard currencies are subject to legal restrictions.
It caused hard-currency-seeking individuals to obtain their desired
currency through the black market.
Countries set legal restrictions on hard currencies to promote the
usage of local currencies. Occasionally, an economy may choose
to abandon their local currency completely and adopt another fiat
money (no intrinsic value) while they begin to implement and
substitute a new form of local currency.
Country Name & their Currency
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