Generally speaking, foreign exchange rates are the prices of one currency in relation to another. They vary according to supply and demand factors. These can be the relative interest rates between countries, the economic strength of a country in international markets, and political stability. A currency’s value rises when it is in high demand, and declines when it is in low supply.
When buying inputs for production from other countries, businesses are exposed to bilateral exchange rates. These are reported widely in the media.
Usually, a central bank sets a fixed exchange rate. These are generally tied to the US dollar. However, in some cases, a currency can be float or flexible. Examples of these are the British pounds, European euros, and Japanese yen.
A currency may be a national or supra-national currency. It can also be a sub-national currency, such as the Hong Kong dollar. Generally, these currencies are pegged by the country’s central bank, or set by the country’s government.
A currency may also be subject to a parallel market, which is an illegal foreign exchange trading market. This rate is often known as the black market rate or the parallel market rate.
For example, a traveler in Japan exchanges the Japanese yen for the US dollars at the airport. The price of the FX may fluctuate at any given time, because of speculation over how much FX there is. Traders can predict the currency’s future price increase or decrease, thereby making money.