Why the Purchasing Power of the Dollar Varies
Travelers may wonder why the value of their American dollar is not the same in each country they travel to. The answer had to do with currency exchange rates. The exchange rate between the US and another country determines the value of the US dollar in that country. The following explains the some of the reasons the US dollar's purchasing power varies from country to country.
Overall State of the Economy
One of the main reasons that one Peso (or Pound, or Euro, or Swiss Franc etc...) does not equal one dollar is due to the overall state of a country's economy. For example, let's imagine that Great Britain's economy is not very strong and that America's economy is thriving. Great Britain's economy may be failing due to high levels of unemployment or a large foreign trade deficit. In this situation, it is very likely that the US Dollar will have greater strength than the British Pound, meaning that an American's money is worth more in England than the Pound is worth in US Dollars.
Interest Rates
The interest rates of a country also have an impact on the value of currency. In the US, a raise of the interest rate generally means that the value of the dollar will strengthen in the world market. Interest rates greatly affect foreign investment in a country. For example, Mexico sets the interest rate to 3% while Canada sets the interest rate at 4.5%. Foreign investors would be lured to the higher rate being paid in Canada. Because of this, the Canadian dollar would most likely strengthen in the market. These factors alone are not the determining factor of determining the strength of a country's currency. In fact, it is a combination of all of these factors which lead to the exchange rate of a country.
Foreign Trade and Trade Deficits
Foreign trade and trade deficit also play a role in determining the strength or value of a country's currency. In many ways, these economic indicators are tided both to interest rates and the overall state of a country's economy. If a country consistently imports many more goods than it exports, the country then has the potential to have a large trade deficit. Although a trade deficit does not mean that a currency cannot be strong, a growing trade deficit is a good indicator of the overall economy starting to decline.
All of these factors determine the exchange rate between countries, and the exchange rate is the reason for the varying purchase power of the US dollar throughout the world. Though elements such as overall trade deficit and interest rates are not generally a part of a traveler's consideration for planning a trip, these factors do influence the exchange rate. Travelers should consider exchange rates before they take the trip, just to have a rough estimate of the dollar's purchasing power. Knowing the purchasing power of the dollar will help travelers estimate the amount of money that they will need to bring along on their trip.
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