What is Foreign Exchange Rate?

A medium of exchange for goods and services is called currency. In a nutshell, it is money issued by governments and accepted for payment in the country. It comes in the form of coins and paper. Every nation has a currency that is widely accepted within its boundaries. For example, the Indian rupee (₹) in India, the Pound (£) in England, and the Dollar ($) in the United States of America. 

A country’s currency cannot be used in another country; for example, the Indian rupee (₹) can not be directly acceptable in the USA. In today’s world, countries have economic relations with each other. Thus there is an increase in interdependence among the countries. Therefore, in the case of international payments, it has to be first converted into the other country’s currency after this it can be used in economic transactions. If an Indian resident wants to visit the USA then he/she has to pay in Dollars ($) to stay there or if an Indian resident wants to purchase a certain thing from abroad then he/she has to pay in their respective currency to purchase that thing. 

Thus for this purpose, the currency of one country is converted into the currency of another country and the rate at which one currency is exchanged for another is called the Foreign Exchange Rate or Foreign Rate of Exchange. In simple words, it is the price paid in domestic currency for buying a unit in foreign currency. For example, If 60 rupees are to be paid to get one dollar then the exchange rate in that case is:

 $ 1 : ₹ 60

The exchange rate can be expressed as the ratio of exchange between the currencies of other countries. It is the price of one currency in terms of another currency. The exchange rate is also known as the External Value of Domestic Currency. It is the rate at which the imports and exports of a country are valued at a given point of time. 

Foreign Exchange refers to the currencies of countries other than the domestic currency of a given country. In simple terms, it is the aggregation of the Foreign currencies held by the country’s government, and Securities and bonds issued by foreign companies and governments.

There are two ways to interpret the Foreign Exchange Rate:

1. It is the number of units of domestic currency that are required to purchase a unit in the domestic currency. As discussed above, $1 = ₹60. Thus an Indian resident needs ₹60 to buy a unit of $(dollar).
2. Similarly, it means the foreign currency required to buy a unit of the domestic currency. If we take the above example, then the price of a rupee is  i.e., ₹1 = 0.167$. Thus a foreign resident needs 0.167$ to buy a unit of ₹ (rupee).

The foreign exchange rate can fluctuate on a year-to-year basis or even a day-to-day basis. A country has many foreign exchange rates as there are many foreign currencies. The rate at which it is exchanged; i.e., the exchange rate is determined by the forces of demand and supply.