Global Financing – Hard and Soft Currency

Global financing and exchange rates are important issues when considering a venture business abroad. In the procedure, I will explain in detail what hard and soft currencies are. I’ll go into detail later explaining the reasoning for floating currencies. Finally, I will explain the importance of hard and soft currencies in risk management.

hard currency

Hard currency usually comes from a highly industrialized country and is widely accepted around the world as a form of payment for goods and services. A strong currency is expected to be relatively stable for a short period of time and highly liquid in the foreign exchange market. Another criteria for a strong currency is that the currency must come from a politically and economically stable country. The US dollar and the British pound are good examples of strong currencies (Investopedia, 2008). Strong currency basically means that the currency is strong. The terms strong and weak, rising and falling, strengthening and weakening are all relative terms in the world of foreign exchange (sometimes referred to as “forex”). Rising and falling, strengthening and weakening indicate a relative change in position from a previous level. When the dollar “strengthens,” its value increases relative to one or more currencies. A strong dollar will buy more units of a foreign currency than before. One result of a stronger dollar is lower prices for foreign goods and services for US consumers. This may allow Americans to take long-overdue vacations to another country, or buy a foreign car that used to be too expensive. US consumers benefit from a strong dollar, but US exporters suffer. A strong dollar means that more foreign currency is needed to buy US dollars. American goods and services become more expensive for foreign consumers who, as a result, tend to buy fewer American products. Because more foreign currency is needed to buy strong dollars, products priced in dollars are more expensive when sold abroad (chicagofed, 2008).

soft currency

Soft currency is another name for “weak currency.” The values ​​of soft currencies fluctuate frequently, and other countries do not want to hold these currencies due to political or economic uncertainty within the country with the soft currency. The currencies of most developing countries are considered soft currencies. Often, the governments of these developing countries will set unrealistically high exchange rates, pegging their currency to a currency such as the US dollar (invest words, 2008). The soft currency breaks down until the currency is very weak, an example of this would be the Mexican peso. A weak dollar also hurts some people and benefits others. When the value of the dollar falls or weakens relative to another currency, the prices of goods and services from that country increase for American consumers. It takes more dollars to buy the same amount of foreign currency to buy goods and services. That means American consumers and American companies that import products have reduced purchasing power. At the same time, a weak dollar means prices for US goods fall in foreign markets, benefiting US exporters and foreign consumers. With a weak dollar, it takes fewer units of foreign currency to buy the correct amount of dollars to buy US goods. As a result, consumers in other countries can buy US products for less money.

fluctuating currencies

Many things can contribute to currency fluctuation. Some are as follows for strong and weak currency:

Factors Contributing to a Strong Currency

Higher interest rates in the country of origin than abroad

Lower inflation rates

A domestic trade surplus relative to other countries.

A large and constant public deficit that displaces internal indebtedness

Political or military unrest in other countries

A strong domestic financial market

Strong domestic economy/weaker foreign economies

No public debt default record

Sound monetary policy aimed at price stability.

Factors Contributing to a Weak Currency

Lower interest rates in the country of origin than abroad

Higher inflation rates

A domestic trade deficit relative to other countries.

A constant government surplus

Relative political/military stability in other countries

A collapsing domestic financial market

Weak domestic economy/Stronger foreign economies

Frequent or recent public debt default

Monetary policy that frequently changes objectives

Importance in risk management

When venturing abroad, there are many risk factors that need to be addressed, and keeping these factors in check is crucial to the success of a business. Economic risk can be broadly summarized as a series of macroeconomic events that could prevent the expected returns from any investment from being enjoyed. Some analysts further segment economic risk into financial factors (those factors that lead to currency inconvertibility, such as foreign indebtedness or current account deficits, etc.) and economic factors (factors such as government finances, inflation and other economic factors that may lead to sudden higher taxes or restrictions imposed by desperate governments on the rights of foreign investors or creditors). Altagroup, 2008. Decisions by companies to invest in another country can have a significant effect on their national economy. In the case of the US, the desire of foreign investors to hold dollar-denominated assets helped finance the US government’s large budget deficit and supplied funds to private credit markets. According to the laws of supply and demand, a greater supply of funds, in this case funds provided by other countries, tends to lower the price of those funds. The price of funds is the interest rate. The increased supply of funds from foreign investors helped finance the budget deficit and helped keep interest rates below what they would have been without foreign capital. A strong currency can have both a positive and negative impact on a nation’s economy. The same is true for a weak currency. Currencies that are too strong or too weak not only affect individual economies, but tend to distort international trade and economic and political decisions around the world.

Conclusion

Hard currency usually comes from a highly industrialized country and is widely accepted around the world as a form of payment for goods and services. A strong currency is expected to be relatively stable for a short period of time and highly liquid in the foreign exchange market. Soft currency is another name for “weak currency.” The values ​​of soft currencies fluctuate frequently, and other countries do not want to hold these currencies due to political or economic uncertainty within the country with the soft currency. Many things can contribute to currency fluctuation; some of these things are inflation, a strong financial market, and political or military unrest. Decisions by companies to invest in another country can have a significant effect on their national economy. In the case of the US, the desire of foreign investors to hold dollar-denominated assets helped finance the US government’s large budget deficit and supplied funds to private credit markets.