2.5 - Exchange Rates Flashcards
What is an exchange rate?
The value of one currency in terms of another currency.
Give an example of an exchange rate.
If £1 is worth $1.20, this means 1 British pound can be exchanged for 1.20 US dollars.
What does it mean if the pound appreciates against the dollar?
It means the value of the pound has increased relative to the dollar. For example, if £1 goes from being worth $1.20 to $1.60, the pound has appreciated.
What does it mean if the pound depreciates against the dollar?
It means the value of the pound has decreased relative to the dollar. For example, if £1 goes from being worth $1.20 to $0.90, the pound has depreciated.
What does it mean when a currency “strengthens” or “weakens”?
If a currency strengthens, its value increases against another currency (appreciation).
If a currency weakens, its value decreases against another currency (depreciation).
What are the effects when the exchange rate increases (e.g., the pound appreciates against the dollar)?
✅ Good for UK importers – Imported goods become cheaper, leading to higher profitability. Businesses can reinvest these savings elsewhere.
❌ Bad for UK exporters – UK goods become more expensive abroad, making them less competitive. Exporters may need to reduce prices, lowering profits, or shift focus to UK customers.
What are the effects when the exchange rate decreases (e.g., the pound depreciates against the dollar)?
✅ Good for UK exporters – UK goods become cheaper abroad, increasing demand. Businesses can keep prices the same in pounds (increasing sales) or raise prices in pounds (increasing profits but not demand).
❌ Bad for UK importers – Imported goods become more expensive. Importers may:
* Switch to UK suppliers to avoid higher costs.
* Increase prices for customers to maintain profit margins.
How do you convert between currencies using an exchange rate?
To convert from the base currency → Multiply by the exchange rate.
To convert to the base currency → Divide by the exchange rate.
How can you check if your answer is reasonable?
Make sure the value makes sense based on the exchange rate. For example, if €1 = £0.85, the number of euros should always be higher than the equivalent pounds.
What is a currency index?
A tool used to compare exchange rates by converting them into an index format with a base value of 100.
Why use a currency index?
It standardizes exchange rate changes, making it easier to compare different currencies over time.
How do you calculate a currency index number?
Current Index Number = (Exchange Rate ÷ Base Exchange Rate) x 100
How can a currency index be used in business?
Businesses can track currency trends over time to make strategic decisions about importing, exporting, and foreign expansion.
