A country’s attractiveness to investors can affect what its currency is worth.
Stable countries are considered to be attractive destinations for investments. The more that people want to invest in a country, the more that country’s currency will appreciate or be worth. This is because investors from other countries need to use that country’s currency in order to invest. For example, a French person who wants to invest in the South Korean stock market needs the South Korean won to do so. This demand for won drives up its value.
The opposite is also true: unstable countries do not attract investors. When investors are uncertain about a country’s future, the demand for its currency typically falls. This happened in the United Kingdom after the Brexit referendum in the summer of 2016. Investors didn’t know how the decision to leave the European Union would affect the British economy and were thus unwilling to invest in the country; this led to the devaluation of the British pound sterling.
Another factor that affects demand for a currency is the price of certain commodities, such as oil.
Oil exports make up a large percentage of the Canadian economy. So if a foreign oil company wants to buy oil in Canada, it needs to exchange its foreign currency for Canadian dollars. If oil prices rise, the company will need to exchange more of its currency for Canadian dollars, driving up the demand for the Canadian dollar and thus its value. Similarly, falling oil prices mean foreign oil companies need to spend less of their currency to buy the same amount of oil. This reduces the demand for Canadian dollars and pushes its value down.
Inflation can also affect a currency’s value.
Inflation means higher prices and generally lower purchasing power for a country’s currency. If a country experiences inflation, the prices of its exports increase, making them less attractive to foreigners. Inflation can also decrease domestic demand for domestic goods, leading a country’s importers to exchange their currency for foreign ones in order to buy cheaper goods from abroad. These two effects—reduced foreign demand and increased supply in the market—both work to push a currency’s value down.
A little bit of inflation—say, prices rising by 1 or 2 percent per year—is normal and the sign of a healthy economy. But hyperinflation, an extreme form of inflation in which prices increase out of control, can drastically weaken a country’s currency. Between 2008 and 2009, Zimbabwe experienced hyperinflation after the government overprinted money, in large part to pay off the massive debt that it had accumulated trying to stave off a domestic food shortage. This led to soaring prices and inflation rates of over 100 billion percent.
There are winners and losers when the value of a currency changes.
It’s a give-and-take between producers and consumers. If you’re a producer, you want people to buy your goods, so a cheaper currency that makes your goods more attractive abroad is beneficial. But if you’re a consumer who wants to get the most bang for your buck, it’s better for your currency to be strong. (U.S. residents traveling abroad also win with a stronger dollar.)
