How is Currency Value determined?

Have you ever wondered how is Currency Value determined? Life would be easier if every country have the same currency and didn’t have to waste time exchanging money or calculating conversion on our phones when we travel. Well, It is almost impossible because most countries have unique economic situations and want to make monetary decisions based on their interests and needs. To understand how those decisions are made it’s important to understand why currencies have different values and how these values shift over time.

A bottle of beer might cost you a dollar in the United States, but in India, it could cost you over 100 rupees. Does that mean a bottle of beer is 100 times as expensive in India as it is in the United States? Well, no—if you convert rupees into U.S. dollars, it costs roughly the same. So the big question who decides how much a currency is worth? For some countries, it’s pretty straightforward: these countries pick a commonly used currency, usually the U.S. dollar or the euro, or any other and “peg” their own currency’s exchange rate to this currency. Countries usually peg their currencies to maintain stability for investors, who don’t want to worry about fluctuations in the currency’s value.

But most exchange rates aren’t fixed—they’re “floating,” meaning their values constantly change depending on various economic factors. As of 01 Sep 2022, one U.S. dollar is the equivalent of about seventy-nine Indian rupees. Ten years ago, a dollar was worth fifty rupees. s worth fifty rupees. And forty years ago, you only needed eight rupees to get one dollar. Over time, the value of the rupee has depreciated, or gone down, making it worth less. Sometimes a currency that depreciates is described as getting weaker because you can buy less foreign currency with it. On the flip side, the Israeli new shekel was worth just nineteen U.S. cents in 2003, but its value has grown over time, trading in for thirty cents on 01 Sep 2022, a nearly 60 per cent increase. Over this period, the shekel got stronger or more valuable; in other words, the currency appreciated.


  • Appreciation = getting stronger = worth more = higher value
  • Depreciation = getting weaker = worth less = lower value

Changes in the value of a currency are determined by supply and demand.

How is Currency Value determined?
How is Currency Value determined?

Currencies are bought and sold, just like other goods are. These transactions mainly take place in foreign exchange markets and marketplaces for trading currencies. Increased demand appreciates the currency value, while increased supply decreases the currency value. Many factors may affect currency value, such as:

1. Interest Rates

Currencies of countries offering higher interest rates tend to increase in value, all else being equal. This is because fixed-income investors flock to higher interest rates, which increases the currency’s demand and value.

2. Inflation

High inflation erodes the purchasing power of the currency holder and increases the cost of local goods. Countries that experience higher inflation may experience a decrease in currency demand, and therefore a depreciation in currency value.

3. Capital Flow

Capital flow represents a large portion of the demand for currency. Large amounts of capital inflow going into a country appreciate the currency, while capital outflow depreciates the currency.