Even though we, everyone, have contact with money from even our early childhood and use it on a daily basis, there are still a lot of details that we do not analyze about it and have several questions that sometimes we do not ask or search for and those questions live in our hands for a quite long time. For example, how the value of a currency is determined? Why do dollar bills have different denominations? Why euros have different values and many others. Even though we are very well aware of how to use money, for example, we will calculate our funds, pay for the things that are affordable for us because we know the value of the item and when we have enough money, we pay for it. However, the concept of money is quite complicated and one of the most difficult questions to answer is how the value of the currency is determined. We should start by mentioning that different countries have their own methods of determining the value of their currency and there are a lot of factors that influence the process.
The history of currency
After the concept of “society” was born, there have been different currencies. Money itself is nothing, as there have been a lot of different options that were used in place of fiat currencies that we use today, that could have been animals, sea shells, paper, metal, or anything that was able to give someone in exchange of something the buyer needed. After that people started using a barter system, which meant exchanging things for another that had equal value. We can consider this to be the forerunner of the modern exchange rate system.
Modern coinage was made in 500 B.C and was created by silver, bronze, and gold and they even had stamps and images of gods, emperors, etc.
Who decides the value of a currency?
Usually, demand for the value is the main determinant of its own value. This is the same way as the goods and services are assigned value, however, in general, there are three main methods that determine the value of the national currency in the United States:
- The first thing to take into account is how much the currency will buy foreign currencies. This is calculated by the exchange rate. The exchange rate is very important in many financial activities, most importantly for those who are involved in the forex market on a daily basis. It created a big competition among the brokerage companies that operate on the market to assist people with adequate help. The best online forex brokers are always trying to be the first ones not only to react to the changes at a high speed but also to determine the changes for the future as well.
- The second way is the value of Treasury Notes. This is available to be converted into dollars through the secondary market for treasuries. Because of that, the demand for the treasury is high and as a result, the value of the USD will rise as well.
- Last but not least, an important method to determine the value is the Foreign Exchange Reserves. In a nutshell, this means the amount of currency held by foreign governments. When they have more currency, the lower the supply of that currency it, thus makes the USD dollars more valuable.
It is quite normal that anything can work to use as a currency and we use fiat currencies because people decided to do so and there was a shared agreement upon it. The value of the currency can be changed over time and there are a lot of factors that affect it. There is some important variable that influences the process of currency fluctuation:
Interest Rates – high-interest rate helps the economy to build a strong currency. This is mainly because, when there are foreign investors in the country, they get a higher return on their investment.
Economic Policies – economic policies can also play an important role in making the currency strong, however, it still depends on the county and the performance of its own currency.
Stability – stable economy directly means a strong economy. A stable economy is very attractive for foreign investors to start the investing process in the country that can increase the strength and value of a currency.
Importance of Exchange Rates
The exchange rate is usually used to determine how much a piece of money is worth between two or more countries. For example, if you convert the USD into Euro or Japanese yen, this amount of money can buy more goods and services in those currencies than the same amount in the US market. The exchange rate was set in place after the Great Depression period when the gold standard also fell. This means that “floating currency exchange” was put in place and the value of the currency was determined.
The exchange rate might have an influence on everyone, it does not matter if you are living the life of a financial accountant or live in some village and spend your days usually at your farm. For example, when you leave the country and travel somewhere, it does not matter if it’s for work, business, or just as a tourist, the exchange rate helps you determine how much of your national currency you will need in order to make your stay efficient in the other country.
Summing It Up
Finally, to sum up, the value of a currency is very important and knowing details about it will help to manage our funds efficiently. However, since there are a lot of changes in every industry and technology that affect our lives in many different ways, it will not be a surprise the value of currency or everything that it entails changing. We already see the massive trend of using electronic money, such as Bitcoin, Cashless payment methods, etc. Several decades ago people would not imagine paying for their goods or service with their credit cards or even mobile apps already. This means that society is doomed for further changes and the most disturbing flaw of all these, the fluctuation of the value of the currency will still continue to be happening unless there is a better solution found for it.