Six factors influencing exchange rates

For every nation, a robust economy is the desired goal. An economy that experiences growth, low inflation and relatively shared wealth has been the focus of most governments around the world. Ghana is no different in this respect. In spite of the periodic economic challenges, governments, both past and present, have been proudly clamoring about their economic achievements.

The exchange rate, another economic indicator, is a key determinant of a nation’s economy. For free market economies, the exchange rate is crucial in the line of international trade.

A stable or strong currency means a nation can import items cheaper than it would if its currency was weak. Exchange rates are also important factors investors need to consider when investing in a country’s economy due to its propensity to affect the real value of their currency.

The Ghana Cedi, which was first established in 1965, has been going through roller coaster periods, performing strongly against major trading currencies at some points while slipping in value during other periods. Property portal, Lamudi Ghana, presents you with a list of six factors that influence the performance of the Ghana Cedi.

1. Inflation

This is the sustained increase in the general price level of goods and services in an economy over a given period. A very important subject matter in the politics of Ghana, inflation is one key determinant in the performance of the Ghana Cedi.

Consistent low inflation rates usually translate into higher currency value, thus raising the purchasing power of the Ghana Cedi relative to other currencies. Consequently, a consistent rise in inflation can depreciate the value of the Ghana Cedi. For an industry such as the real estate sector, which imports an estimated 70% of materials, inflation is of immense importance to stakeholders in this industry.

Simply put, consistent levels of high inflation does not only push prices of local materials faster than it should, it also raises the cost of importing. These costs are eventually passed down to the consumer.

2. Interest Rate

This is the added value paid for the use of money borrowed from a creditor. The Bank of Ghana is the institution that influences interest rates in the country. High interest rates may be seen as nominally increasing the monetary value of a creditor. However, a high interest rate in Ghana compared with a low interest rate in say the United States (US) essentially means the Ghana Cedi would have to depreciate in real value in order to restore parity.

3. Current-Account Balance

This is the difference between a country’s savings and its investments. A deficit occurs when a country imports more goods, services and capital than it exports. It goes beyond the trading of goods and services and involves the incorporation of capital such as investment income and transfers.

In the event that Ghana should experience a current-account surplus, this could cause a rise in value of the Ghana Cedi relative to other currencies. Alternatively, a current-account deficit could lead to a weakening of the nation’s currency.

4. Balance of Trade

The main difference between trade balance and current-account balance is that trade balance only involves goods and services while the latter incorporates investment capital along with goods and services.

For smaller economies such as Ghana, trade deficits are usually the norm. This then shifts attention to foreign currencies in order to import more goods, thereby, leading to a depreciation of the nation’s currency. The use of local materials reduces the dependency on foreign ones and for the Ghanaian real estate industry, mud bricks instead of cement is one way to reduce import cost.

5. Public Debt

This occurs when government borrows from within or outside the nation to finance its expenditure. Ghana has attained a lower middle-income status and as such, has to raise more funds than it did in previous years. One way the government does this is through an issuance of bonds and other financial security tools. However, a large public debt leads to lower investor confidence, thus, moving investment away from the Ghana Cedi. This in effect leads to currency depreciation.

6. Market Speculation

This is an activity engaged in the economic world when investors, for reasons outside economics, choose to act in ways that affect the nation’s currency. Market speculation is usually driven by rumour-mongering or panic buying.

For instance, a short-term fall in foreign currency deposits could lead investors to think it would last a long while, leading them to exchange Ghana Cedis for such currencies. This in effect depreciates the value of the nation’s currency.