A currency’s exchange rate is typically determined by the strength or weakness of the underlying economy, As such a currency’s value can fluctuate from one moment to the next. Currency fluctuations are a natural outcome of floating exchange rates, which is the norm for most major economies. A currency’s level directly impacts the economy in so many ways.
Currency exchange rates can impact major economies and it is influenced by many factors including a country’s performance, capital flows, inflation, and so on. Many people do not pay attention to exchange rates because rarely do they need to. People only understand what reflects in their daily lives. It is people who are into import payments, foreign travel, and overseas remittances who pay attention to exchange rates.
Directly or indirectly, currency levels may play a role in the interest rate you pay on the price of groceries or food items on the market, returns on one’s investment portfolio, and even job prospects. The value of the domestic currency in the foreign exchange market is key for consideration when the central bank set monetary policies.
THE WHY
The rising value of a country’s currency versus others may be an indicator of improving economic health or at least a prospect of it. There are however factors that influence this change in currency levels or rate movements.
One major puller of the exchange rates is trade. A country’s trading relationship with the rest of the world has a great effect on the domestic currency. Countries that export more than they import known as trade surplus will typically have stronger currencies than those with trade deficits. If businesses buy goods and services outside Africa for instance, they will typically pay in dollars or pounds depending on the country they are trading with. The more that country exports, the higher the demand for that country’s currency will be.
The stability of a country both economically and politically plays a role in the fluctuation of a country’s currency. The outcome of an election could have a significant impact on a country’s currency. While investors enjoy high-interest rates, they value the predictability of an investment. This is why currencies from politically stable and economically sound countries generally have higher demand, which in turn leads to higher exchange rates.
Another variable that heavily influences the value of a currency is the inflation rate.
Inflation is the rate at which the general pricing of goods and services is increasing. While a small amount of inflation indicates a healthy economy, too much of an increase can cause economic instability, which may ultimately lead to currency depreciation.
There is no single indicator that explains exactly why a currency has fluctuated, many factors related to demand and supply affect currency values. it is through more knowledge and understanding of the market conditions and their implications for currency fluctuations that lead to more accurate predictions.
THE IMPACTS
Changes in exchange rates affect businesses that operate in multiple countries and do so in different ways. The volatility of foreign currency can severely impact profit margins whilst constantly monitoring exchange rates can become time–consuming. An example is if your business sells a product or service in a foreign country, a change in the exchange rate will have a direct impact on your bottom line. Since your consumers will be paying in their local currency, if the exchange rate moves unfavourably, you might receive less money for your product or service than expected.
And even if your business does not buy and sell to other countries, these fluctuations can have some unforeseen consequences. For instance, if a company uses a truck to move its products and a currency change fluctuates the cost of fuel, there will be a direct impact on shipping costs. And the company will have to bare these costs.
A devalued currency can result in “imported” inflation for countries in Africa that are substantially importers. A sudden 20% decline in the domestic currency could result in imports costing 25% more, as a 20% decline means a 25% increase is needed to get back to the original price point.
Exchange rates are a key consideration for most central banks when setting monetary policy and Africa is not an exception. A strong domestic currency exerts a drag on the economy, achieving the same results as a tighter monetary policy that is higher interest rates.
The downside of depreciation on a currency involving a local firm that imports machines or finished products will see an increase in the cost of buying. If the company imports engines from Germany to make the car, it will have to pay more to buy the engines. This will reduce the company’s profit margin.
Currency fluctuation has a significant impact on the consumer. A weak currency increases the cost of imports and eventually, this cost is borne by the consumer. For instance, if one is buying a foreign car, it might get expensive if the currency in your country depreciates. This means you will have to pay more money to get an item of the same value. On the other hand, a stable currency allows consumers to buy more. This increased spending further benefits the overall economy of the country.
How Businesses Can Mitigate Currency Risk When Operating Overseas
Plan Ahead
When making international transfers and overseas payments, planning ahead of time is key. You can secure an ideal exchange rate and protect your funds simply by placing currency trades at the right time. Profitable and effective foreign exchange all comes down to careful planning and identifying the right currency hedging strategy for your needs based on the current market.
Stay Informed on the Currency Market
As a business owner, staying informed is key to succeeding in the exchange market. You can do this by staying aware of the currency rate in the country where you are operating or buying from, to ensure that it hasn’t changed unfavourably.
Adjust Your Marketing Efforts as Currency Rates Change
If the exchange rates move in a country where you sell your products so that foreign currency has appreciated against the dollar or pound, this effectively means that your products are on sale without you having to drop the price. This could be an opportunity for you to make a profit, so you might want to increase your marketing efforts during this time.
Search for Alternative Suppliers
If you are importing goods from abroad the exchange rate changes unfavourably in the country that you normally import from, consider looking for alternative suppliers when rates are at a better value. As this can affect your profit margin as a business.
Consult with a Specialist to come up with a Strategy for your Business
With specialist expertise and access to data, a currency broker can accurately predict the best time in the financial markets to move money across borders to get the best rate possible. They will be able to create a bespoke solution that helps you achieve your desired rate, whether that’s through a forward contract or a spot rate. You can also track, target, and even lock in an exchange rate for future payments, which means that you can place an order for the amount that you want to achieve when exchanging different currencies.
