What is the term for the rate at which one currency can be exchanged for another in the foreign exchange market? a Interest rate b Inflation rate c Exchange rate d Prime rate
The correct answer and explanation is:
Correct Answer: c. Exchange rate
The term that refers to the rate at which one currency can be exchanged for another in the foreign exchange market is exchange rate. This rate indicates how much of one country’s currency is needed to purchase a unit of another country’s currency. Exchange rates are vital in international trade, investment, and finance.
Exchange rates can be determined in two main ways: floating and fixed. In a floating exchange rate system, the value of a currency is determined by supply and demand in the foreign exchange market. This means that factors like trade balances, interest rates, political stability, and economic performance affect the currency’s value. When demand for a currency increases, its value appreciates, and when demand falls, its value depreciates.
In contrast, a fixed exchange rate system is one in which a country’s currency value is tied or pegged to another major currency, such as the US dollar or the euro. In such systems, governments or central banks intervene in the market to maintain the currency’s value within a narrow range.
The exchange rate affects the cost of imports and exports. When a country’s currency strengthens, its goods become more expensive for foreign buyers, which may reduce exports. On the other hand, imports become cheaper, benefiting consumers. Conversely, a weaker domestic currency can boost exports by making them more affordable abroad but may raise the cost of imported goods, contributing to inflation.
The other options provided in the question are incorrect in this context. The interest rate refers to the cost of borrowing money. The inflation rate measures the rate at which the general level of prices for goods and services rises. The prime rate is the interest rate that commercial banks charge their most creditworthy customers. None of these terms directly refer to currency conversion in the foreign exchange market.