Exchange Rate The rate at which one country's currency can be traded for another country's currency - - International Economics . . . Determination of Equilibrium Exchange Rate The equilibrium rate of exchange is determined in the foreign exchange market in accordance with the general theory of value, i.e., by the interaction of the forces of demand and supply.
Thus, the rate of exchange is determined at the point where demand for forex is equal to the supply of forex. Quantities of Foreign Exchange Demanded and Supplied x Y P P P D S E c a d b S D Dollar value of Rupee (Price of exchange rate) or external value of Rupee in term of $ Figure . Excess Supply Excess Demand In the above diagram, Y axis represents exchange rate, that is, value of rupee in terms of dollars. X axis represents demand and supply of forex.
E is the point of equilibrium where DD intersects SS. The exchange rate is P . . .
. Types of Exchange Rate Systems Broadly, there are two major exchange rate systems, namely, ( ) fixed (or pegged) exchange rate system and ( ) flexible (or floating) exchange rate system. Managed Floating Exchange Rate system also prevails in some countries (like India). .
Fixed Exchange Rates Countries following the fixed exchange rate (also known as stable exchange rate and pegged exchange rate) system agree to keep their currencies at a fixed rate as determined by the Government. Under the gold standard, the value of currencies was fixed in terms of gold. . Flexible Exchange Rates Under the flexible exchange rate (also known as floating exchange rate) system, exchange rates are freely determined in an open market by market forces of demand and supply.
. . . Types of Exchange Rates Exchange rates are also in the form of (a) Nominal exchange rate (b) Real exchange rate (c) Nominal Effective Exchange Rate (NEER) and (d) Real Effective Exchange Rate (REER) If US Dollar = ₹ , Nominal exchange rate = / = .
This is the bilateral nominal exchange rate.