A currency exchange rate causes a fluctuation characterized by or affected by the interest rate differentials, capital flows, and a nation’s economic performance. A currency at the exchange rate could either depreciate or appreciate thus causing shocks or changes in the international trading of imports and exports (Song, 2015). For example, where the exchange rate falls or the dollar depreciates, prices of domestic goods go down. That means imports are expensive and will thus reduce the quantities of goods and services entering the country. That translates to a reduction in foreign goods and services while opening up a window of opportunity for an increase in exports.
Trade deficits in
international trade worsen in the event a country’s local currency appreciates.
That is because the imports are sold at an increasingly lower or cheaper price.
A flooded local market will result in the lowering of the prices of exports
hence the exports will be less profitable hence the domestic demand will fall.
Currency appreciation in the exchange rates results in a market where the
imports are cheaper (Song, 2015). The implication is that the same amount of
local currency can buy more products that could have been acquired in the
foreign product portfolios. Local consumers, therefore, find imported goods
cheaper and go for them.
Purpose statement
The paper reviews how the fluctuation of currency in the
floating exchange rate systems affects international trade. Factors that are of
core importance as far as the identification of the fluctuations is concerned
include the balance of trade changes, international capital market, and
currency speculation. Importation of external goods will cause a rise in the
demand for the dollar to purchase the goods. The consequence of a surge or
infiltration of the market with the dollar is that the local currency will
fluctuate through a dip, resulting in currency depreciation. Speculative
exchanges of funds are another cause of appreciation and depreciation.
Home-country case of inflation leads to a trend of dollar appreciation, making
importations expensive and affecting the purchasing power of the country.
Significance of the Issue/Problem under Study
Understanding fluctuation and its resultant impact on
international trade are vital for it determines how currencies relate to others
as far as importing and exporting goods are concerned (Song, 2015). This is an
issue that is of importance as far as stabilizing the domestic market is
concerned to avoid instances of downward pressure on locally produced goods and
services. Prices and value for local goods and services are raised making or
causing a decrease in the rate or amount of demand for the domestic goods.
Equally noteworthy is that the issue of fluctuation for
instance in depreciation results in a higher balance of trade. That is
calculated as the exports minus the imports, making the domestic market
competitive to . In such an exchange,
the foreign products will be less competitive even as the domestic market
becomes more expensive (Song, 2015). At the level of the international capital
markets regulating trade, changes to the value of the mother country cause a
higher or sharp increase or foreign exchange loss and gains. A rise in the
domestic currency translates to a direct adverse impact on the legally traded
and acceptable instruments.
A Literature Review
Effects of currency depreciation in the economy of the
United Kingdom for example translate to making the exports expensive (Frieden,
2014). Such a fluctuation will make other European nations avoid importing
British goods, products, and services. Having or setting a higher price means
that markets will start anticipating a drop in the United Kingdom exports.
Imports become cheaper with such a fluctuation and that way, the consumer in
the country will be able to use one pound to buy more products than would be
the case while buying European Union goods (Frieden, 2014). Translating to
cheaper imports will result in the anticipation of an upshot in the number the
country will export.
A United Kingdom depreciation
due to fluctuation means it will experience a lower X-M, with more money spent
on importations than exportations. Aggregate demands would therefore be
expected to fall resulting in a consequent or subsequent slow-paced economic
transformation (Frieden, 2014). Additionally, the import costs will reduce as
the raw materials, items, goods, machinery, and equipment will fall as a result
of the shocks of appreciation. For example, the quantities of imported oil will
decrease and eventually the petrol prices will fall. The chain result is
further noted in an upshot of export prices as the manufacturers will enjoy
increased government level incentivization, but it will remain competitive.
Fluctuation in the direction of currency appreciation will lower the
inflationary pressure hence the interest rates will decrease.
Impact of appreciation on AD/AS
Effects of Appreciation
Fluctuation impact on international trade is also
resultant where the currency appreciates. Elasticity is one of the effects and
it is set or determined by the prevailing demands for imports and exports
(Zehri, 2020). Appreciation leads to a worse situation as it results in a
situation defined by Marshall Lerner as PEDx+PEDm>1.
Over time, fluctuation affects elasticity as it varies
especially where international trade is affected by a situation where the
imports and exports become inelastic (Zehri, 2020). It, therefore, means that
appreciation will improve the current account of international trade. When the
demand becomes elastic people will have to seek out alternatives as others
switch to more viable options.
International trade affects the economy where
appreciation will be based on the economic status. Consider where the economy
is in recession making a fall in aggregate demand and causing employability.
Appreciation bolsters international trade by reducing the cases of pressure
from inflation thus limiting the level of growth.
Appreciation during currency
fluctuation is dependent as well on the level of economic growth in other
nations. For example in a situation where Europe as a geopolitical region
experiences increased growth, they will increase the volumes of imports from
the United Kingdom (Zehri, 2020). The recession however will depend on the
available exchange rate versus the increase in value. Appreciation signals a
thriving economy and also a healthy international trade, enhancing
competitiveness in such countries as well and growing their trades bigger.
Devaluation and the Balance of Trade: The J Curve
A devaluation is a form of currency fluctuation where a
country’s exports are cheaper for purchase in the international market. This
fluctuation is also devaluation and it serves to reduce the volumes of imported
goods to a country, impairing their participation in international trade with
the receiving country (Garnaut, 2019). Imports from international players such
as multinational companies will fall and that slow down the pace of
international trade between two countries or more. In the event the exports
from the local market rise while the imports take a nose dive, the nation’s
trade deficit will be reduced drastically. Such is the outcome of devaluation
as will be demonstrated in a J-curve. Countries that have faced serious cases
of disequilibrium in the scope of their balance of payments tend to devalue
their currencies (Garnaut, 2019). By pursuing that option, they make their
exports, reduce imports, and make positive their country’s balance of payments.
A country’s devaluation process, therefore, makes the
exports and imports of a country uncertain. That in consequence affects the
nature of the two or more countries’ international trade as there is no
elasticity (Garnaut, 2019). Moreover, the nature of the exports in the
receiving country is affected. Price or cost elasticity for the exports using
the international currency of a nation will increase the general volume of
goods and services and products exported. Such a decrease in the volumes of
exports will make the country offset its debts while lowering or declining the
processes of devaluation.
Price and Quality Effect of Devaluation
Fluctuation towards devaluation affects the price of
goods and services. International trade is for example affected when one makes
a clear negative currency balance devalues the currency of the other receiving
nation (Conrad, 2020). For instance where a rupee could cost a certain item in
the United States. However, the cost of the item increases from Rs.40000 to Rs.
50000, which will cause a devaluation of the United States dollar from let’s
consider 46 to 44. There will be more Indians that opt to spend their money on
the American machine than was the case before.
Increasing the costs and price
of the item in the American market further means that the quantity demanded
locally in the US reduces. That is also referred to as the quantity effect.
Eventually, the outcome of devaluation is that the eventual value of the
imported goods and products will be dependent on the final quantity effect
(Conrad, 2020). Sometimes that quantity effect is larger compared to the price
effect but it could also work in a vice versa process. The elasticity of the
imports plays a significant role in bringing about the differences.
Balance of trade in
international trade is therefore dependent on how devaluation is managed by the
country. Historically, it is evident that the negative outcomes in
international trade are the one that dominates over the positive effects or
outcomes (Conrad, 2020). Depreciation further has its effects noted earlier and
faster than the net effect of appreciation in the currency. There is a grace
period or a period where the quantity of imports tends to decline to deal with
or manage the rise in the rupee prices. Imports in their values have to be
balanced depending on how the exports of a foreign country are managed within
the scope of the country’s devalued currency.
Noted from the J-curve is that
the outcome of devaluation or depreciation is that it is negative on the
balance of trade. Eventually, the imports and exports have to change or adjust
their prices. Greater elasticity in the demand for exports further is subject
to the improvement of the balance of trade and balance of payments (Garnaut,
2019). Within a fixed exchange rate model, citizens spend a lot of their income
on imported goods. That eventually results in a negative multiplier effect as
savings are used, income exhausted, and leakages affect the eventual taxes
collected. International trade in the results of the scenarios is managed by
the government through the raising of aggregate demands, particularly for
domestically manufactured goods and products. Effects of imports and exports
are therefore real in an international trade system where the exchange rate
floats (Garnaut, 2019). Moreover, the net effect on the exports and the imports
is real as it causes complications but depends on the price levels, the costs,
the existing interest rates, and other economic factors.
Effect of Fluctuation on International Demand and Supply
Fluctuation affects international trade through its
effects on demand and supply systems and exchange rates. Demand and supply are
drawn for instance when the exchange of a currency in a certain country
depreciates (Kurihara, 2013). It could depreciate due to changes in the demand
and even the availability of the goods or the supply. Under such conditions,
the government devalues the currency with the local prices in the local
currency falling.
The net effect is an increase
in the quantity of the local country’s exports. In such a process, the exports
fall or decline. Depreciation will make the supply of Indian goods for instance
grow, making imports slightly lower than is the case during appreciation. Costs
and prices of goods will be lower in dollars, meaning that devaluation will
make the demand for international goods lower and supply of the locally
produced goods high in the foreign market.
High costs and prices of the
imports in for example India will make a demand for imports low. As a result,
firms will order fewer imports from foreign international trading partners.
They will substitute the goods with locally produced ones. Deprecation,
therefore, serves to increase the supplies from the domestic markets which in
consequence affects or lowers the volumes of imports to create a balance in
international trade (Garnaut, 2019). Fluctuation concerning depreciation makes
a country competitive in its products while eliminating the demand for
international goods and products. Industrial output ought to be higher as well
in the local market to encourage the depreciation and devaluation of the
currency. It will end up increasing the net effect of the demand but the
illustration on the curve below represents the balance of trade in
international trade where there is a oderation in the currmency appreciation
and currency depreciation.
From the curves, it is evident that when one country
devalues its currency in a bid to stimulate its economic growth, others will
also tend to do the same (Kurihara, 2013). No gains in the net incomes are made
when countries devalue their currencies. During the period of the Great
Depression, the same was felt as countries struggled to maintain the steady
supply of their exports. That was in a bid to guarantee stability in the stream
of their exports, protect the income of their workers, preserve the employment
of their people, and trade without suffering the adverse effects of the
economy. A country needs to find its needs in terms of the local demands and
the local supplies to check whether its economies are stable (Kurihara, 2013).
Fluctuation needs to be viewed from the perspective of the leftward progress of
the economy versus a positive curve thus maintaining a steady price level while
ensuring real gross domestic product.
Recommendations and Managerial Implications
Countries need to ensure political stability as that
determines their productivity and hence the value of their currency (Zehri,
2020). Instability results in distributional consequences most of which are
adverse. Currency appreciations and depreciations, therefore, are a direct
product of the decisions in the political class including the top levels of
government.
Economic policies that favor
local production should be promoted in countries to enhance the country’s
economic competitiveness and hence its balance of trade. Alterations in the
currency emanate due to instability in the economic policies as adopted and
implemented by the countries (Zehri, 2020). Appreciation has to be thwarted through
government intervention to encourage cheaper domestic goods, reduced
importation of international goods, and lobbying for the depreciation of the
currency, and local capacity.
Countries should consider
avoiding relying too much on imported goods. Depreciation in the currency will
result in reducing the weakening of the local economy, high rates of inflation,
bolstering the aggregate output, encouraging policies that lead to economic
recoveries, and supporting the local producers.
Markets in its network of
traders have to analyze and predict the anticipated depreciation and
appreciations in currency. In their economic calendars is the need to cover the
market strengths and weaknesses while forecasting the falls in a domestic
currency (Garnaut, 2019). They play a leading role in facilitating the
decision-making in their countries. The role is also on the pedestal of the
central banks which regulate their national chargeable interest rates, comment
on the country’s economic growth, signal currency depreciation, and signal
economic challenges going into the future.
Conclusion
The paper indicates that a strong currency results in
higher productivity and faster economic growth. Fluctuations produce changes in
the prices of commodities including oil, thus hurting the economy. Countries
that export register stronger currencies while having their prices rising.
Strong currencies further have an impact on the effect of enabling countries to
start experiencing inflation. Where the economy grows at a much slower pace, or
some do not experience a growth at all, their rates of appreciation lead to an
even worse economic situation. Prices for commodities will tend to become
cheaper while also lowering the cases of inflation thus encouraging imports.
Demand for domestic products dips as the local companies take advantage to
remain competitive. Costs are cut to align with the government’s goal of
preventing instances where the local currencies could appreciate too much and
cause a fall in the economy. Depreciation on the other hand could be pursued to
enable the lowering of prices on the foreign exchanges while bolstering the
quality of the exported goods and products. Export revenues in the country are
also enhanced in the same elastic markets.
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