What determines the exchange rate, and causes it to flunctuate?

There are two kinds of currencies. Fixed currencies and floating currencies. Fixed currencies are tied to another currency (or basket of currencies) and fluctuate with that particular currency (or currencies). The rates of floating currencies such as the american dollar and the euro are mostly regulated by demand and supply. So the market mostly regulates the exchange rates of those currencies, with exception that central banks can influence the exchange rates of currencies with monetary policies. They can for instance temporarily increase supply of currency to influence exchange rates.

What determines the exchange rate, and causes it to flunctuate?

In short it%26#039;s all about supply and demand.

When a country imports goods so that they are running Net Exports as a deficit then there is more currency heading out into the global (open) market. When a country is exporting a good deal and Net Exports is in surplus then there is less of that currency out in the market.

Take the modern example. America has been spending and over-reaching for a long time now. What that means is that we%26#039;ve been running a large trade deficit so the USD is floating everywhere in the open market, meaning the supply of the USD is high relative to demand. When demand is low the value of the currency is going to go down while the value of another is bound to go up.

Trading and fiscal policy are the major contributers to the exchange rate and how the market moves. There are a great deal of other factors, but this is the bare-bones of it.