An evaluative 15 day , virtual trading of foreign currencies helped me understand that buying and selling one or the other currency and making a profit out of the exchange rate differential is not a fictitious task, it is analytical and scientific. I could observe that, the change in rate is actually a blend of multiple factors, which helped me to understand the reason for the losses or gains experienced by me in the foreign exchange market primarily due to the exchange rate fluctuations in the market.
1. Differential in Inflation: I received gains as well as losses while as was trading in Japanese Yen. This was due to this major reason which establishes that, a country which has a lower inflation rate is prone to demonstrate a rise in the currency values, as its purchasing capacity/power shall be increased in proportion to other currencies (Douglas, Pontikis and Lovrencic, 2013). During the analysis of my transaction I was able to observe from a study that the inflation rate for Japan was quite higher than of Australia which ultimately led to the downfall in the rate of Japanese Yuan and thus leading towards loss.
2. Differential in interest rates: Interest rate, inflation and exchange rates are closely interlinked. A manipulation in interest rates empowers central bank to control both inflation and exchange rates, and changing the rate of interest effects the state of inflation and currency values. A higher rate of interest offers lenders in an economy a higher return in relation to the return offered by other countries. Therefore, it serves as a stimulus to attract foreign capital and thus causing the rise in the exchange rate. It is, worth mentioning that the impact of higher rates is reduced, if the inflation of the country is comparatively higher than others, or if any other factor causes the currency rates to go down (Berman, 2013).
The loss suffered by me in the Japanese Yuan and US dollar currency, was majorly due to this factor. It has been observed that the interest rates in USA are quite less than Australia and this has pushed the currency higher while Japanese Yen went downwards.