Friday, June 26, 2009

FOREIGN EXCHANGE RATE

In Malaysia under the Foreign Exchange Regulation all trade must be in Ringgit term. You need to convert your foreign currency into ringgit before you can purchase any goods.No foreign currency note (FCN) has a legal tender here. You need to change it with any Commercial Bank or Licensed Money Changer.

Do you know how they exchange the FCN to Ringgit?. They used fair value exchange rate . What mechanism they use to fix the rate and at what value acceptable at market level.?

History of foreign exchange rate.

After Worl War II USA initiated the Bretton Woods agreement. This agreement resulted in a system of fixed exchange rates that partly reinstated the gold standard, fixing the US dollar at USD35/oz and fixing the other main currencies to the dollar - and was intended to be permanent.

However, during sixties the Bretton Woods system came under increasing pressure as national economies moved in different directions. A number of realignments kept the system alive for a long time, but eventually Bretton Woods collapsed in the early seventies following president Nixon's suspension of the gold convertibility in August 1971. The dollar was no longer suitable as the sole international currency at a time when it was under severe pressure from increasing US budget and trade deficits.

The following decades have seen foreign exchange trading develop into the largest global market by far. Restrictions on capital flows have been removed in most countries, leaving the market forces free to adjust foreign exchange rates according to their perceived values.

But the idea of fixed exchange rates has by no means died. The EEC (European Economic Community) introduced a new system of fixed exchange rates in 1979, the European Monetary System. This attempt to fix exchange rates met with near extinction in 1992-93, when pent-up economic pressures forced devaluations of a number of weak European currencies.

Nevertheless, the quest for currency stability has continued in Europe with the renewed attempt to not only fix currencies but actually replace many of them with the Euro in 2001.
The lack of sustainability in fixed foreign exchange rates gained new relevance with the events in South East Asia in the latter part of 1997, where currency after currency was devalued against the US dollar, leaving other fixed exchange rates, in particular in South America, looking very vulnerable.

But while commercial companies have had to face a much more volatile currency environment in recent years, investors and financial institutions have found a new playground. The size of foreign exchange markets now dwarfs any other investment market by a large factor. It is estimated that more than USD 3,000 billion is traded every day, far more than the world's stock and bond markets combined.

Will continue on how to calculate exchange rate later.

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