XM = r
In the simplest of terms, a currency increases or decreases depending on how the market of that nation fares. Intro to macroeconomic students will remember that short-run fluctuations in net exports are affected by the local currency's valuation.
The higher the confidence around a nations' ability to produce certain goods or services, the more they will be willing to invest in that country. This investment will lead to a rise in equities due to a bigger demand for said goods/services. Thus, companies sell more and get higher profits.
This extra demand for the local currency will increase its value. And ipso facto that currency will appreciate in the forex market. Once the local money hit a valuation when exporting goods/services becomes too expensive, then the demand for it decreases. So, the note depreciates in the forex market.
The problem with the theory is that it rarely survives its experimental phase. And this is no exception. So, while, yes, that kind of happens. It's not the full story.
Oil and governments
Even though oil is a commodity, it still represents an excellent case study of how the forex market affects everything, and everything affects it.
Oil is priced in USD. That means that oil prices will fluctuate if there is a significant change in the greenback's value compared to other major currencies. These changes in rates influence oil companies’ revenues as well as average consumers. These changes, in turn, affect the cost of things, and that's where the government might step it.
Central banks are powerful financial institutions that have to safeguard for the well-being of their local market and their currency. And whenever push comes to shove, they will pick market health over forex exchange. That means policies that might boost equities but devaluate money. It could also mean the opposite.
And that is why it can be so hard to apply economic theory to reality.
Hope is not lost. It's just taking a short break.
It may be disheartening to read that there is not a linear correlation between the equity and the forex market. But that does not mean that one does not affect the other in a pretty direct manner. As globalization leads to more multi-national corporations, their stocks become a valuable indicator of movements in the forex market.
Tiffany's may not increase the value of the rubble. But McDonald's reporting an increase in the price of their fries to meet the quarterly projection will affect the euro. Holland is the biggest potato exporter in the world. So, McDonald's new pricing to keep their valuation means that Holland couldn't export as much potato as it should. And that lack of exports will weaken the EUR/USD pair.
So how do equities affect the forex market? By having large corporations that require multiple nations to meet their demands. It is not a 1-to-1 relationship. But whenever there is a sudden drop in a forex exchange, the chances are that the equity market had some involvement in it.
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