Free Essay: Factors Affecting Demand and Supply of Currency
Foreign currency is one of the main sources of income for many countries. It is important for economists to understand the factors influencing the supply and demand of currency. This will enable then to make important choices with regards to trading in foreign currency.
Political factors are one of the main factors that influence the demand and supply of currency. When a country or region faces political instability, their home currency will weaken. Weakening of the home currency will increase the supply of currency in the global market. However, it will decrease demand for currency in the local trading market.
Government policies will also affect the supply and demand for currency. The home currency is affected by the policies imposed by the local government. These policies can either make the home currency to trade at a high or low. In turn this will affect the supply and demand for the currency. Most business transactions around the globe use the dollar in their trading. Policies imposed by governments that trade in the dollar will affect the supply and demand of global currency.
The capital flows in a given region will affect the supply and demand of currency. When there is a high flow of capital in a given region, then the home currency is strengthened. This means that there will be a high demand for the currency in the global foreign exchange market. The home country will experience an increase in the supply of currency.
Inflation is known to weaken currency. When a region experiences inflation, they will consequently experience a decline in the demand for their currency. They will find it expensive to trade with other currencies since their own will be of very low value. The region will suffer a decline in the supply of currency. Since there will still be the need to carry out international trade, the demand will remain considerably high but they will be a great reduction in the supply. Conducting international business within such economic environments is not favorable.
Foreign exchange trading relies heavily on the speculation. Economists and other business expert make calculated risks based on past experiences. They are able to predict how different market trends are bound to unfold. These speculations are 90% accurate most of the time. Therefore they are held in high regard in the business world. Therefore, such speculation can affect the demand and supply of currency.
If a certain currency is expected to grow weak based on speculations, traders will avoid it or approach with a lot of caution. This will affect the supply and demand of that specific currency. However, if by chance the speculations are not accurate, then the country with enjoy good business. Understanding the factors that affect the supply and demand of currency will enable businessmen to make informed decisions.
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