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The exchange rate is the price at which one currency can be converted into another. Currencies freely traded on the foreign exchange markets have a sort rate for immediate exchange, and a forward rate for dealing at some date in the future.
The ratio of the value of one country\'s money to the value of another country\'s money is expressed, for example, as dollars per pound sterling, or francs per dollar, or yen per francs. When the world is on a fixed standard such as the gold standard, each currency is related to gold by law, for example, the US declares that one ounce of gold equals $35, and France declares that one ounce of gold equals F175. Thus each currency is related to others by a legal ratio to gold (which is $1.00 = F5 in this example). If trade imbalance were to create a surplus of dollars relative to what the French want to hold, francs would be used from the US stabilization fund to purchase dollars, and ultimately gold would flow from the US to France in exchange for remaining surplus dollars. The exchange rate might vary from the legal rate slightly, depending upon the cost of gold shipment.
When the world is on a fluctuating exchange-rate system, each exchange rate is established by the buying and selling of currencies in the world\'s money markets and can change over a very short period of time, even second by second when markets are open. TF |
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