How do exchange rates affect businesses?
To compete in today’s economy, international expansion is often a necessary step for a business. With today’s technology, it’s easier than ever to do business overseas, however, international expansion is still a huge undertaking for any company, especially if you’re a small business owner. This means that you might not have the time or resources to fully understand how the currency market will affect your profit margins. So, how do exchange rates affect businesses? In this article, we look at how the foreign exchange market or forex market where currencies are traded affect UK businesses and some ways that you can mitigate currency risk in the foreign exchange market when operating globally.
What are exchange rates?
Exchange rates refer to the price of one country’s currency versus the currency of another. For example, as of the 29th of December 2021, at 11:20 am, the British pound to US dollar (GBP/USD) exchange rate was USD 1.34. Therefore £1 would buy you $1.34.
Exchange rates are set in the global financial marketplace. Banks and other financial institutions trade currencies around the clock. Exchange rates are very volatile; they move frequently and sometimes unfavourably or unexpectedly. This can make it difficult to achieve a good rate, especially if you don’t have much experience with currency exchange. Exchange rates move based on supply and demand. There isn’t one specific day, week, or month of the year that’s better for exchanging currency.
For UK businesses looking to operate globally, currency exchange may be needed on a larger scale for example buying goods/services from abroad, paying salaries and investing. Exchange rates growth is often seen as an indication of a country’s strengthening economy. Below are some of the key factors which may influence exchange rates to move:
- Interest rates
- Inflation rates
- Economic performance
- Trade wars
How do exchange rates affect businesses?
Changes in exchange rates affect businesses that operate in multiple countries and do so in different ways. The volatility of foreign currency can severely impact profit margins whilst constantly monitoring exchange rates can become time-consuming. For example, if your business sells a product or service in a foreign country, a change in the exchange rate will have a direct impact on your bottom line. Since your customers will be paying in their local currency, if the exchange rate moves unfavourably, you might receive less money for your product or service than expected.
Similarly, if your business imports goods from overseas such as raw materials (e.g. oil), it’s important to pay close attention to changing exchange rates because the value of goods is highly sensitive to currency fluctuations. As exchange rates change, this alters the cost of supplies that are purchased from other countries and the changing value of a product also impacts the attractiveness of a product to overseas customers. Depreciation of your local currency makes the cost of importing goods more expensive, which could lead to a decreased volume of imports.
So, if you’re exporting your product or service and are receiving funds in a foreign currency – there is the chance you could lose out on money if the value of the pound gets stronger, and you could see your costs increase if the pound gets weaker. Fluctuating exchange rates and currency risk are factors that you will need to cover in your business model before taking your business overseas.
As well as fluctuating currency exchange rates, when making international payments, businesses may also be subject to charges from their banks who charge a premium on foreign currency as well as additional wiring fees if they utilise an intermediary bank in the middle of the transaction.
Whilst fluctuation exchange rates have the potential to heavily impact a business’s bottom line, they can also be used to your advantage when placed at the right time. Working with a foreign exchange broker to devise a currency strategy that is bespoke to your businesses needs and make your international transfers is the best way to ensure your profits are protected from exchange rate volatility and transfer fees.
How can businesses mitigate currency risk when operating overseas?
When making international transfers and overseas payments, planning ahead of time is key. You can secure an ideal exchange rate and protect your funds simply by placing currency trades at the right time. Profitable and effective foreign exchange all comes down to careful planning and identifying the right currency hedging strategy for your needs, based on the current market.
Look for alternative suppliers
If you’re importing goods from abroad and the exchange rate changes unfavourably in the country that you normally import from, consider looking for alternative suppliers when the rates are at a better value.
Adjust your marketing efforts as currency rates change
If the exchange rate moves in a country where you sell your product so that the foreign currency has appreciated against the British pound, this effectively means that your products are on sale without you having to drop the price. This could be an opportunity for you to make a profit, so you might want to increase your marketing efforts during this time.
Stay informed on the currency market
As a business owner, staying informed is key to succeeding in the exchange market. You can do this by staying aware of the currency rate in the country where you’re operating or buying from, to ensure that it hasn’t changed unfavourably. To receive valuable currency market information on the currency market straight to your inbox, sign up for the Halo Financial currency alerts today.
Get a currency specialist to devise a currency strategy for your business
With their expertise and access to data, a currency broker can accurately predict the best time in the financial markets to move money across borders to get the best rate possible. They will be able to create a bespoke solution that helps you to achieve your desired rate, whether that’s through a forward contract or a spot rate. You can also track, target, and even lock in an exchange rate for future payments, which means that you can place an order for the amount that you want to achieve when exchanging different currencies.
With over 16 years of experience working with both small and large businesses across the globe, here at Halo Financial we under the importance of a comprehensive risk management strategy. We can work closely with you to develop the right solution.
How do exchange rates affect businesses? – FAQs
How does exchange rate affect international business?
Foreign exchange rates affect businesses that export goods and import raw materials (eg. oil). A depreciation in the value of a country’s currency will make exports cheaper, which businesses can benefit from, whilst importing raw materials will become more costly.
What is the impact of exchange rates?
Exchange rates fluctuations affect the value of imported goods, investment performance, economic growth, interest rates, and inflation. Fluctuating currency value makes doing international business and sending money across borders risky. It’s important to use a forex specialist who can help you to protect your profits from exchange risk.
What is the impact of exchange rates on international trade?
Exchange rates affect the trade surplus or deficit; a weaker domestic currency stimulates exports and makes importing goods such as raw materials more expensive.