The Foreign Exchange Market Essay Example
WHAT IS THE FOREIGN EXCHANGE MARKET?
The foreign exchange markets are the original and oldest financial market and are the basis upon which the rest of the financial system exists and is traded. It is the largest and most influential market in the world today. The world’s largest security markets – the New York Stock Exchange, the Hong Kong Stock Exchange and the Nasdaq have a daily trading volume of three hundred billion dollars. According to the Bank of International Settlements, the Foreign Exchange Market has a daily trading volume of six and a half trillion dollars. This daily figure is worth more than all but two of the world’s largest economies – China and the United States.
A ROLE OF GLOBALISATION
People today live in an increasingly globalized world. Today’s financial world implicates businesses that rely increasingly on increasingly larger, complex, and more delicate global supply chains. Now, people store more foreign foods than locally made foods in their pantries, people drive foreign cars and work at multinational corporations. A mere fifty years ago, none of this existed, people driving foreign motor vehicles and eating foreign foods was seen as a luxury but has now since become the unexceptional.
Global supply chains have grown to become enormous in size – and by many seen as unnecessary and overengineered. A humble product – such as the iPhone – you may think is assembled in China - necessitates forty-three countries. It consists of batteries made from lithium in Brazil, to semiconductors made in Taiwan, to sand for the glass screens mined in the Netherlands to the boxes made in the Czech Republic – a list endless and inordinately complex - to be brought together to China, for assembly. This process is repeated perpetually – for soft drinks, for furniture, for electronics, for Toyota Corollas. Through all these many exchanges, people like the Czechs are not interested in being paid in US Dollars or Chinese Yuan, but in their local currencies. The process is repeated multitudinous numbers of times daily, to create this enormous demand and to create a secondary market that we call the Foreign Exchange Market.
THE SIZE AND INFLUENCE OF THE FOREIGN EXCHANGE MARKET
The Foreign Exchange Market is an ancient system, with roots in the times of the Babylonians, but veritably truly is a surprisingly new system for its size, rising in the aftermath of the Second World War following the Bretton Woods Conference of July 1944. A total of forty-four countries met at this conference, limited only to the Allies in World War Two. The Conference established the International Monetary Fund and the World Bank, most importantly created a fixed exchange rate backed by the price of gold. Unlike previous gold standards, the Conference only valued one currency – the US Dollar.
Participating countries “pegged” their currencies to the US Dollar, meaning there was no real currency market but depended on a certain rate for a certain amount of gold, at 35 USD/ounce, irrespective of supply and demand. In defiance of, when the US Dollar came under conjectural pressure, negotiation was required to maintain the US Dollar’s peg to gold. Knowing this, eight of the world’s largest central banks, amalgamated to form the London Gold Pool to control the price of gold and stabilize the price of the US Dollar. Notwithstanding, despite these efforts, in 1967, a run-on gold and with the devaluation of the UK Pound Sterling against the US Dollar resulted in a 14.3% devaluation, despite efforts at the time by the London Gold Pool and the Harold Wilson government at the time. The London Gold Pool intervened in an expansive buyout of gold. The cost, consequently, of supporting the dollar by gold would be demonstrated to be insupportable politically furthermore economically. The London Gold Pool collapsed in
In 1971, President Richard Nixon took the United States off the Gold Standard. After gold began to climb higher and higher, he had been faced with either keeping the United States Dollar’s control on gold prices by selling more gold or taking the US off the Gold Standard. Now, countries began to float their currencies freely, without any link to gold. Now, currency was traded on an open market, with direct trading of currency - without any link to gold – but to supply and demand.
Although foreign exchange may be confusing, perplexing, and volatile in today’s global marketplace, there is a need everyone to possess and understanding of the foreign exchange market, with its concepts and effects.