Finances
The Federal Reserve and the Forex Market Connection
Most investors utilize a combination of technical and fundamental analysis when trading on the Forex market. Perhaps one of the biggest fundamental indicators used by Forex traders is a country’s interest rate movement. Even small changes (either up or down) can affect a country’s currency rates.
That’s why investors are usually glued to the news when the Federal Reserve chairman makes that all-important decision to raise or lower the discount rate and/or the Federal Funds rate, both of which have a direct affect on the overall interest rate. That decision affects markets across the board, whether someone is investing in stocks, currencies, or any other major investment markets.
What’s the discount rate?
The discount rate is that rate that banks are charged to borrow money directly from the Federal Reserve. That, in turn, directly affects the interest rate that banks will then charge its customers. If the discount rate goes down, then the overall interest rate charged by the banks to its customers goes down. If the discount rate increases, then the overall interest rate goes up.
What’s the Federal Funds rate?
The Federal Fund rate is the second rate that can affect overall currency rates. This rate refers to the rate that banks charge each other to borrow money for overnight loans. If the rate goes up, then the interest rate charged to consumers (prime lending rate) to borrow money goes up, while if the Federal Funds rate decreases, that savings (interest rate decrease) is usually passed down to the consumer.
What’s the connection between interest rates and currency rates?
Interest rate changes have a dual effect. If the interest rate of a country goes up, then more investors are attracted to invest money in order to receive a higher return. There’s more consumers spending and the currency rate is positively affected.
On the other hand, a higher interest rate can also decrease the amount of borrowing in a country, and thereby negatively affect the currency rate. In order to know which affect has a stronger influence, an investor needs to carefully monitor the ongoing currency rate fluctuations to ascertain the overall direction of change.
Only then can he make the smart trade decision in his chosen investment market.
Online Forex trading system platforms provide convenient online trading, day or night, with access to online Forex market news.
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