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Exchange Rates: How are these calculated?
Floating rates are simply determined by the good old-fashioned, tried and tested method of supply and demand. How much demand there is in relation to supply of a currency will determine that currency’s value in relation to another currency. For example, if the demand for U.S. dollars by Europeans increases, the supply demand relationship will cause an increase in price of the U.S. dollar in relation to the euro.
There are also countless geopolitical and economic announcements that affect the daily exchange rates between two countries, but a few of the most influential include: interest rate decisions, unemployment rates, inflation reports, gross domestic product numbers, manufacturing information and political stability.
Some countries may decide to use a pegged exchange rate that is set and maintained artificially by the government. This rate will not fluctuate intraday, and may be reset on particular dates known as revaluation dates. Governments of emerging market countries often do this to create stability in the value of their currencies. In order to keep the pegged foreign exchange rate stable, the government of the country must hold large reserves of the currency to which its currency is pegged in order to control changes in supply and demand.
