If you go to the store to buy that new fall jacket and it costs $80 you know to hand the cashier 80 dollar bills or swipe your credit card for that amount. When you are inside the United States one dollar is worth one dollar but an important concept is how much the dollar is worth in the rest of the world. It drives all our economic activity with other countries.
What is an Exchange Rate?
How an exchange rate is calculated is complicated. It depends on the policies of the other country along with their economic status. We can get more into this in a later post but for right now I will keep this simple!
If you go to an airport exchange counter or a bank there will be a list of how many euros, yen, etc. that you can get for one US dollar. For you this means how much your money is worth when traveling to other countries.
Foreign currencies are traded on exchanges, similar what was discussed in Stock Market 101
What does the Exchange Rate mean for the US economy?
If the dollar is "strong" versus other countries this is good for your European vacay. However, it is bad for the United States trade defecit
The United States what?
When the USA trades with other countries it is not like they are handing them millions of dollars all at once. The US is spending money to import goods and getting money to export goods. If they are buying more than they are selling a trade deficit occurs. Lets outline it this way:
On Thursday $1 US dollar is worth 100 yen in Japan. The US owes $1 million dollars and therefore owes 10,000 yen. On Friday $1 US dollar is worth 90 yen and therefore the US owes 11,111 yen. The strength of the dollar is worth more. You can get more in Japan for that $1 but that also means the US owes more money.
Exchange rates are carefully watched by companies who deal in foreign currencies in order to make sure they are not losing too much money when the value of the US dollar changes.