Foreign Exchange 

• The buying and selling of currency

- Example: in Oder to purchase souvenirs in France, it is first necessary for Americans to sell (supply) their dollars and buy (demand) Euros.

•  The exchange rate (e) is determined in the foreign currency markets

- Ex: The current exchange rate is approximately 77 Japanese Yen to 1 US dollar

• Simply put the exchange rate is the price of a currency

• do not try to calculate the exact exchange rate

• Always change the Demand (D) line on one currency graph, the S line on the other currency's graph

• Move the lines of the two currency graphs in the same direction (right or left) and you will have the correct answer

• If D on one graph increases, S on the other will also increase on the other graph

• If D moved to the left, S will move to the left on the other graph

Changes in exchange rate

• Exchange rates (e) are a function of the supply and demand for currency

- An increase in the supply of a currency will make it cheaper to buy one unit of that currency

- A decrease in supply of a currency will make it more expensive to buy one unit of that currency

- An increase in demand for a currency will make it more expensive to buy one unit of that currency

- A decrease in demand for a currency will make it cheaper to but one unit of that currency

Appreciation

• Appreciation of a currency occurs when the exchange rate of that currency increases (e up)

- Hypothetical: 100 Yen used to buy $1, now two hundred Yen buy $1

Depreciation

• Occurs when the exchange rate of that currency decrease (e down)

- 50 yen now buys one dollar

Example:

If more German tourist visit America, then the demand of the U.S. Dollar will increase, cause the US dollar to appreciate, the supply of the Euro will increase, causing it to depreciate

Exchange rate Determinants

• Consumer Tastes

• Relative Income

- Imports tend to be normal goods

• Relative Price Level

• Speculation