There are so many people that are ignorant on how the foreign exchange operations take place and the manner in which business is conducted. It is therefore important that the information on this be addressed to the members of the public so that they can understand what is expected of them in trade and how they stand to benefit. Mr. Swanson’s question on the effects of the United States dollar being expanded in the international market is quite important and so may people get confused by such developments. This report seeks to make clear the manner in which the dollar operates in the international market and how people benefit from its use.
In order to understand the effects of the dollar in the international market, one must first understand the reason that the American dollar is universally accepted and the reason that this dollar is used in the international market. World Bank may not be in a position to effectively operate if all currencies from the different countries are used and therefore the bank chooses one currency to be used in the international market. This currency is referred to as the reserve currency. Currently the United States dollar is the reserve currency as demanded by the World Bank.
Having this knowledge, people can now understand the benefits of using the United States dollar in the international trade as well as the disadvantages that may arise. One thing that should also be understood is that the value of the dollar is measured as the purchasing power of the dollar against another currency. This is the basis that the Forex bureaus and the money market employ in their trade since it simply measures the strength of one currency against the other by purchasing power.
When the dollar is weak, then purchasing international commodities is very cheap unlike when the dollar is very strong. It is therefore worth mentioning to Mr. Swanson that the pricing of the Cow Dairy using the reserve currency, the US dollar, will have benefits in the international market as this products will fetch more money since the other currencies of those regions will be weaker than the dollar. On the other hand, when the Dairy is doing business with nations that the dollar value is higher, the company uses more dollars since the purchasing power of the other currency is higher than that of the comparative state.
However, the dollar keeps on fluctuating and this will have effects on the companies that use the dollar in pricing. This follows the fact that when the value of the dollar changes, the companies must also ensure that the prices are updated since if the prices are not reviewed, then the company will be selling products either at a bloated price or at a lower price (Madura, 2009). This is not good in the international market, and indeed in any form of business transactions. Although it is quite taxing to have to review prices in order to keep up with the dollar fluctuations, it is very important that companies in the international market use the dollar in its pricing since it will be universally accepted regardless of the locality of the purchasers.
The interest rate parity theory is used in predicting the value of the currency. It involves using the rate differentials in two different currencies and assumes that the capital mobility and perfect substitutability of domestic and foreign assets. It is important to keep in mind the fact that the theory applies in a case of equilibrium where there is no profit making between one country and another in selling and buying of dollars. Prediction of the currency is based on the spot exchange rate that is current and a relationship with the dollar is laid down to project the future.
In the international market, there are some factors that are considered by the World Bank. This includes money policy, exchange rates and interest rates. Monetary policy is the mechanism that is used by the banks is used in controlling the supply of the money. On the other hand, exchange rate is the value of one currency against the other. Lastly, interest rate is the percentage at which the borrower pays interest to the lender. All this are available in the money market and in the international market they will all be based on the primary reserve currency which is the United States dollar.
It is necessary that people who are not conversant with the international market to understand that the exchange rate will fluctuate, and therefore affect their businesses. Some of the factors that affect the exchange rate and fluctuation include differentials in inflation of one currency, difference in interest rates, current account deficits, public debt, terms of trade, and economic and political instability or influence. All these are experienced due to the simple fact that the exchange rate is a relative value against two different one currencies. Some of the factors are so direct in their effects on the value of the currency and the exchange rate while some are not. For instance, the inflation rate of one country is different from that of the other and therefore this difference is expected to have an impact on the exchange rate between the two currencies.
There is so much that may not be understood by the lay people in the international market. However, the benefits of using the reserve currency, the United States dollar, in the international market are higher than any other experiences that may be experienced.