Currency is the mean of monetary circulation, issued by a nation’s government or the Central bank for measure of a good cost. The currencies of various countries differ in liquidity, i.e. an asset’s ability to maintain its nominal value.
There are many options of currency classification. Any characteristic can be taken as a basis of classification, for example:
The issuing country:
- nominal currency is a currency, issued by a state, government or central bank for use within this country;
- foreign currency is currency notes (banknotes, treasuries, coins) in circulation, which are a legal instrument of payment in certain foreign nation or group of nations, and also withdrawn or being withdrawn from circulation, but exchangeable currency notes;
- holdings in monetary units of foreign countries and international monetary and payment units in accounts;
- collective currency is a currency, applied for payments between international economic organizations, for instance, the SDR, the previous European currency - ECU, now - the euro.
Currency convertibility:
- freely convertible currency. This is a currency, for which there are no limits for payments in this currency;
- partially convertible currency is a currency, which has limitations in exchange for other currencies;
- inconvertible currency.
Exchange rates:
- strong/steady currency (i.e. stable to its nominal and other currencies rates);
- weak/soft currency.
Validity period:
- constant currency (the exchange rate, which eliminates effects of currency fluctuations and is used for calculation of financial figures of performance);
- temporary currency. It is a currency of certain country, the validity period of which is limited by time period; or monetary unit, which is used for payments within agreements and contracts during validity period of these agreements).
Efficiency:
- reserve currency is a foreign currency, in which central banks accumulate and keep reserves for international payments on external trade operations and foreign investments;
- the leading world currencies. They are seven major fully convertible currencies in mostly often used international payments: the US dollar, the euro, the Swiss franc, the pound, the Japanese yen, the Canadian dollar, the Australian dollar.
Real existence:
- real currency, acting directly as money;
- quasi-currency, for example, the ECU.
Currency functioning:
- as monetary unit, showing value of goods and services;
- as mean of circulation, acting as an intermediary in circulation, which is executed by the following formula: commodity-money-commodity;
- as saving and accumulation mean, can transform from monetary unit to real estate (property) or securities (stocks, bonds and etc.).
From the definition of currency, its classification and function, it is understood that currencies of different countries have diverse worth against each other, which express in terms of exchange rate.
Exchange rate is a price (quotation) of monetary unit of one nation, expressed in monetary units of another country, precious metals or securities.
Exchange rates are in constant motion under following factors:
- Purchasing power parity of exchange rates means that purchasing power of certain amount in one market has to be equal to this amount in other market. If the sum is exchanged at a current rate for a foreign currency, thereafter, the higher the price for commodity and costs for its domestic production compared to similar product abroad, the higher is the share of import compared to export. And it is should be expected that the domestic price level for the same product will be higher than abroad that will push prices for foreign currency up, as demand for it will increase;
- capital flow, demand increase for foreign securities, bank credits, and cash leads to foreign currency value rise;
- economic performances of nations, currency of which is quoted on the market. It is negative or positive news about economic situation in a country, which influence on currency and make changes in its rate;
- Large financial funds operation. They can exert significant influence on long-term tendencies of exchange rates by means of investing funds into currency reserves;
- Exporters and importers activities. Their influence on the market is short-term and cannot cause global changes in exchange rates directions, as exporters and importers make external trade deals, the volume of which is insignificant compared to overall volume of operations on the currency market;
- political figures speeches can effect exchange rates during reports, meetings, summits, press conferences, etc. (for example, press conference after the interest rates discussion), and sometimes they can determine long-term trends, if speech is about long-term outlook (for example, possibility of changing interest rates, forming government budget). As a rule, forecasts about what will be said and how the market will act after, appear ahead such statements, as date and time for a speech are known in advance. But sometimes, unexpected events take place, which lead to strong and unpredictable movements on the market;
- the central banks activity. A government can influence on the currency market through central banks, and central banks enter the currency market via commercial banks. For production development and consumption growth, direct and indirect regulation is used. The direct regulation includes the discount policy and currency investments on the external currency markets (related to abrupt injections or withholding large currency volumes from the international market); the indirect regulation is made by money quantity in circulation, through inflation rate and other. Central banks entry to the market is followed by significant movements of exchange rates because of large volume of investments. Also, central banks of different countries can make joint operations on the currency market.
