Foreign exchange market is the market where the foreign currencies are exchanged, bought and sold by the participants. the foreign exchange market does not refer to a particular place but it is a link between buyer and seller where they come in contact through telephone, fax, internet etc in order to deal in various foreign currencies. It’s the world largest market also known as Forex
market.The various functions of foreign exchange market are as follows:
i) Purchasing Power:
The main function of the foreign exchange market is to transfer the purchasing power of people in different countries in order to exchange the goods and services. For example, if India import goods and services from china, the India needs yen to pay for the goods and services purchase where the yen is bought by India from the foreign exchange Market.
ii) Credit Facility:
The foreign exchange market provides credit facility to participants in order to promote international trade. For such credit facility various instrument such as bank drafts, bills of exchange etc are used.
iii) Coverage of risks:
Such foreign exchange market covers the risk arises from the fluctuation in exchange rates by forward exchange rate where the buyer and seller come into contract.
The various participants/ Determinants in the foreign exchange market as follows:
i) Commercial bank:
The commercial banks buy and sells foreign currency on behalf of retail client and for their own account. They also deal with other commercials banks and foreign exchange dealers.
ii) Retail Customer:
The retail clients include international investor, multinational corporations, etc who deals with commercial banks and other foreign exchange dealer for foreign exchange.
They are the middleman in foreign exchange market between buyer and seller where they have full information about market. Most of the banks deals with brokers who buys and sells foreign on behalf of buyer and seller and their main source of profit is the commission.
iv) Central bank:
Central Banks is the major component of foreign exchange market. they intervene in market by buying and selling
foreign exchange in order to control fluctuation in an economy. It acts as a custodian of foreign exchange reserves in an economy.
They include exporters, importers, business travellers, tourist etc who need foreign exchange and deals with commercials banks and others authorised dealers.