Question

Suppose that yesterday, the U.S. dollar was trading on the foreign exchange market at 0.75 euros per U.S. dollar and today the U.S. dollar is trading at 0.80 euros per U.S. dollar. Which of the two currencies (the U.S. dollar or the euro) has appreciated and which has depreciated today?

Short answer

The U.S. dollar has appreciated, and the euro has depreciated.

Step-by-step solution

Understanding Exchange Rates

Exchange rates tell us how much one currency is worth in terms of another currency. Yesterday the exchange rate was 0.75 euros per U.S. dollar, meaning 1 U.S. dollar could be exchanged for 0.75 euros.

Compare Exchange Rates

Today, the exchange rate is 0.80 euros per U.S. dollar. This means 1 U.S. dollar can now be exchanged for 0.80 euros.

Determine Dollar Appreciation/Depreciation

Since the U.S. dollar now gets more euros (0.80 euros today compared to 0.75 euros yesterday), the U.S. dollar has appreciated.

Determine Euro Appreciation/Depreciation

Because it takes more euros to get one U.S. dollar today than it did yesterday, the euro has depreciated.

Key concepts

appreciation

Appreciation in the context of currencies means that a currency becomes more valuable relative to another currency. In our example, yesterday, 1 U.S. dollar was worth 0.75 euros. Today, 1 U.S. dollar is worth 0.80 euros. This indicates that the U.S. dollar can now buy more euros than it could yesterday. Therefore, the U.S. dollar has appreciated.

• Appreciation indicates increased purchasing power of the currency.
• Benefit for consumers as imported goods become cheaper.
• May pose challenges for exporters as their goods become more expensive for foreign buyers.

depreciation

Depreciation of a currency means that it has lost value relative to another currency. In the given scenario, yesterday, 1 U.S. dollar could be exchanged for 0.75 euros, whereas today, 1 U.S. dollar is exchanged for 0.80 euros. This means that the euro has depreciated because now more euros are required to buy the same amount of U.S. dollars than were required yesterday.

• Depreciation indicates decreased purchasing power of the currency.
• Imported goods become more expensive, impacting consumers negatively.
• Beneficial for exporters as their goods become cheaper for foreign buyers.

foreign exchange market

The foreign exchange market is where currencies are traded. It is a global decentralized market that determines the exchange rates. The value of currencies relative to each other fluctuates based on supply and demand factors.

The market is open 24 hours a day, five days a week, which allows for continuous trading.

• Factors influencing the foreign exchange market include economic data, interest rates, political stability, and overall market sentiment.
• It allows businesses to convert currencies and facilitates international trade.
• It is the largest financial market in the world by trading volume.

exchange rate comparison

Exchange rates comparisons help to understand the relative value of one currency against another. In our example, we compared the U.S. dollar to the euro over two days to see how the value has changed. Yesterday, the rate was 0.75 euros per U.S. dollar, and today it is 0.80 euros per U.S. dollar. Comparing these rates helps in currency analysis.

• Helps to determine the appreciation or depreciation of a currency.
• Useful for making informed trading and business decisions.
• Essential for tourists, investors, and international businesses to understand cost implications.