There is usually a high demand for the U.S. dollars among most of the people. This is because buying U.S. dollars will help them to buy the exported materials that include goods and services. It is not just delimited to this point, but it also helps the individuals to take part in buying U.S. stocks, real estates, bonds, business, etc. Some people even prefer to stalk some of his money in an account of US dollar bank as this will prove a real good profit to these men later on in future.
Therefore in foreign exchange market, the merchants buy US dollars and increase the demand for it ata particular time at a mentioned and pre-determined exchange rate. So it is evident that the demand for US dollars is not constant throughout among the traders. Obviously, this demand depends on certain factors like:
- Global demand for the exported goods and services tothe US.
- Estimated exchange rate.
- Current exchange rates.
- The running rate of interest in the US and other countries too.
Now it is time to take a look at the exchange rates of the foreign exchange market provided the other influencing factors be same. It is also important to know the relation between the amount of demanded US dollars and exchange rate with the same provided criteria’s.
The law of demand foreign exchange:
There is a requirementfor every single thing that people need in daily life. Similarly, there is a demand for US dollars among people. Therefore the demand of these US dollars is being regulated by the rise and fall of the exchange rates. It has been noticed in foreign exchange market, that with the hike in the exchange rate the demand for US dollar decreases. Taking an instance, suppose a trader had planned to buy some US dollars but found out that the exchange rate has increased from 100 yen to 120yen provided nothing change. Then naturally he has to buy fewer dollars than he expected to exchange from the foreign exchange market.
Therefore it is evident that the demand for US dollars depends on the exchange rate. However, know the real factor behind it:
- Exports effect
- Expected profit effect
Exports doactually affect the demand for US dollars. The more goods and services US exports, there will be a greater needfor these dollars and thus in turn that affects the exchange rate. This is how the exchange rate fluctuates in the foreign exchange market. However, here is an interesting twist. As explained earlier about how export influences the exchange rate, but there is also a vice versa thing. Like when the exchange rates go high that causes an abrupt rise in the exchange rate with other countries. That as a result, decreases the demand for US exported goods and materials. When exchange rate falls, a bulk amount of US goods is being shipped. So it is all bound with a single chain.
Taking an example out of Boeings order of 787 aeroplanes. It has been calculated that the price the 787 planes will be near about 100 million dollars. Now say the exchange rate is 90 euro cents per dollar for it. Whereas another European airline KLM estimated that the price must be 90 million euro cents. So, unfortunately, they had to decide that with this price they cannot buy 787 aeroplanes. But ifexchange rate diminishes to 80 euro cents per US dollars only then they will be able to buy all 787 airliners. Moreover, this is how things work in a foreign exchange market.
The Expected profit effect:
Traders in foreign exchange market do not just go and buy or exchange some US dollars. They undergo pretty manyresearches and get confirmed that the investment they are up to must prove fruitful. Yes, actually it is true that when there is a probability of high profit in exchanging US dollars, then the demand for it naturally goes up. Now the point is how can the profit be estimated? The answer is again very evident, it is determined from the exchange rate. It has been noticed that when the expectedrate is low, there is a chance of greater profit.
An example might make things simple. Let’s consider a Japanese bank who is willing to exchange 120 yen per US dollars in a particular year ending. Now if exchange rate goes down from 120 to 100 yen per US dollars, then this Japanese bank will have a profit of 20 yen per US dollars when they sell it in the next year ending.
Therefore the summary is when the exchange rate falls, the profit increases for those who are holding US dollars and is willing to sell. This, as a result, creates a greater demand for buying US dollars because every trader then keeps intentions to buy at the lower exchange rate and then sell later and make a profit out of it.