The more popular saying is that

A long time ago, country A and country B traded precious metals. If all gold coins with the same fineness as the domestic currency are used, there is no exchange problem, and the exchange rate is 1: 1.

Later, country A had a bad idea to change the fineness of gold to the original average, so the businessmen in country B were not stupid. When they came to country A to exchange money, they exchanged one B coin for two A coins, so the exchange rate was 2: 1, and the concept of exchange rate came into being.

Later, the times were developing. In the era of paper money, what is the value of that piece of broken paper? Paper money is actually national credit, so what is the support of national credit? One is the wealth owned by the country, and the other is the stability of the political situation. Simply understood as all currency value = national wealth value, then the exchange rate is the following formula;

Exchange rate = wealth value of country A/wealth value of country B = unit currency value of country A/unit currency value of country B.

Unit monetary value of commodities = national wealth/unit monetary quantity.

What affects the exchange rate depends on what affects the national wealth.

I. Balance of payments. The balance of payments is the dominant factor that determines the exchange rate trend. The balance of payments is the sum of various payments in a country's foreign economic activities. AB The two countries want to trade with each other, so we can't close the door. Country A began to make money at the end of B, with a trade surplus. Then the wealth of country A increases and the wealth of country B decreases, so for example, the change of exchange rate will lead to the increase of currency value, that is, the currency of country A is more valuable, and vice versa.

Second, national income. For example, at the end of the year, the trade balance between AB and China was equal, and no one made a profit. However, the people of country A are extremely industrious, and the GDP has skyrocketed, while the development of country B is unfavorable and the GDP remains unchanged. Then country A has created more wealth for itself, and the amount of unit currency has not changed, resulting in an increase in the value of unit currency and a change in the exchange rate. A currency is stronger and more valuable. On the contrary, it is understandable.

Third, the level of inflation. For example, at the end of the year, the trade balance between AB and China was equal, and no one earned it. The national wealth of AB and China remained unchanged. However, when the People's Bank of country A became hot, it doubled the amount of money in the market, that is to say, the amount of unit money doubled, which naturally led to inflation, which directly led to the original value of unit money becoming 1/2, and the currency became worthless, which led to the change of exchange rate. When a currency fell, the exchange rate also fell.

Fourth, the difference of interest rate level. If everything in AB is the same, but the interest rate in country A is higher than that in country B, then the high interest rate will attract the inflow of foreign funds, and country B will deposit the money in country A in order to obtain the high interest rate. Gaining more wealth with less interest leads to the increase of unit currency value, exchange rate change, currency strength and exchange rate rise. On the contrary, it is understandable.

Fifth, it is easy to understand whether the political situation and society are stable. Social unrest leads to the disappearance and flight of wealth, the decrease of social wealth, the decrease of unit currency value and the change of exchange rate.

PS:

The free floating exchange rate is determined according to what is said upstairs.

It reflects the currency exchange rate completely determined by market supply and demand factors.

But not all countries adopt free floating exchange rates.

There is also a managed floating exchange rate system (dirty floating) or crawling peg, officially controlled.

crawling peg

It is an exchange rate system that allows the currency to appreciate or depreciate gradually according to inflation. Under this system, the exchange rate is usually fixed, but according to the degree of inflation, it can be slightly adjusted every once in a while if necessary.

Dirty floating/managed floating exchange rate system.

Refers to the exchange rate system in which the official exchange rate target is not open. The central bank or monetary authorities intervene in the foreign exchange market to keep the exchange rate at its undisclosed target level, which may change with the change of environment.

Japan, China, Singapore and other countries adopt non-free floating exchange rate system.

The currencies of the United States and the European Union cannot float completely freely.

Theoretically, supply and demand determine the market price.