So we have seen that the amount of importing and exporting has a direct and significant affect on the currency value and how currencies move relative to one another.
- Income changes: increasing domestic income means that the residents will use more imports, roughly speaking. Therefore they will want more of the foreign currency and the domestic currency goes down slightly. This will then result in an equilibrium being set between the new exchange rate with a weaker home currency.
- Changes in interest rates: clearly this has a big impact. If interest rates were to increase, then this means there will be lots of investment in that currency which leads to it strengthening.
- Differences in interest rates: this is the point of purchasing power parity, which is considered and explained in another articles in this series including the effect that is has on supply and demand.