How Currency Exchange Rates Are Determined
Some currencies float freely against each other while others are pegged to a major currency by their government. Understanding which regime applies — and what moves rates day to day — will help you make sense of why prices change.
Floating Rates
Most major currencies (USD, EUR, GBP, JPY, AUD, CAD) float freely. Their value at any moment is whatever the global currency market is willing to trade them for. The market is enormous — daily turnover exceeds $7 trillion — and the rate adjusts continuously.
Drivers of floating rates include interest-rate differentials, inflation differences, trade balances, government debt levels, political stability, and broad risk appetite.
Fixed and Pegged Rates
A pegged currency has its rate set against a reference (usually the US dollar or the euro). The country's central bank buys or sells its own currency to keep the rate within a narrow band. Examples include the Hong Kong dollar, the Saudi riyal, and the Danish krone.
Pegs add stability for trade but require large foreign-currency reserves. When markets believe a peg is unsustainable they can force a devaluation — as happened to the British pound in 1992 and the Thai baht in 1997.
Central Bank Intervention
Even floating-rate central banks occasionally intervene to smooth excessive volatility. The Bank of Japan, the Swiss National Bank, and the People's Bank of China have all stepped in publicly in recent decades.
What This Means for You
When converting money you'll always see the mid-market rate from the live market. Banks and providers add a spread on top. The mid-market rate is the fair reference; the spread is the cost of the transaction.
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Frequently Asked Questions
Why do exchange rates change second by second?
Trades happen continuously across global venues, and each new trade slightly updates the most-recent-price benchmark.
Can I lock in a rate?
Yes — forward contracts and some consumer apps let you lock a rate for a future transaction, usually for a small fee.