Reply #14: It is not that clear-cut [View All]

[TechBear_Seattle]

First, a distinction must be made between domestic value and international value. Domestic value is the value of a currency within its country of issue; international value is the value of a currency as it is traded on the open currency market.

Domestic value is determined by a currencies buying power. When prices go up, the value of the currency goes down because it buys less. When prices go down (hey, it could happen!), the value of the currency goes up because it buys more. This is a bit easier to think of if you use a metric such as your current wage. Let's say you earn $12 an hour, or 20 cents a minute. Last month, some item cost $2, or ten minutes of work. Today, the same item costs $2.20, or 11 minutes of work. The domestic value of the dollar in your case has dropped 10%. It is a bit more complicated when you try to come up with a domestic value on a national scale, but the basic principle is the same.

International value is actually easier to determine because you have international currency markets. These markets create an exchange rate in exactly the same way that stock markets create an exchange rate between stocks and currency. When demand for common shares of XYZ Corp. is high, the price of those shares increases. When demand for the stock decreases, the price decreases. Same thing with a nation's currency: When demand for the US dollar is high, the dollar has increasing value. When demand is low, the dollar has decreasing value.

What drives the market is PERCEIVED worth. A one dollar bill, like a one share certificate of stock, has very little (if any) intrinsic value. There is nothing backing it except the issuer's promise that it is worth something, and the acceptor's faith in that promise.