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Frequently Asked Questions—Part 6
By : Lynn Huselton
Plano East Senior High
Plano, TX
Q.What is a strong dollar or an appreciated currency and a weak dollar or depreciated currency?
A.There are two values of any currency. Students often confuse these causing themselves much difficulty in understanding the appreciation (strong dollar) or depreciation (weak dollar) of currency. Each currency has an original domestic purchasing power due to its own inflation or deflation rate. When discussing the appreciation or depreciation of currency against foreign currencies, one must assume that the domestic purchasing power of the currencies remains stable until affected by the appreciation or depreciation of the currency. Once a student has grasped the concept of strong and weak dollars and how they affect the purchasing power of currencies, the original domestic value of currencies can be added to the formula.
A strong dollar is one that will purchase more of a foreign currency than that currency will purchase of it. A weak dollar is one that will purchase less of a foreign currency than that currency will of it. All currencies are traded like any commodity. Also, when purchasing products in any country one must pay for those products in the currency of the nation selling the goods. There are markets for these currencies. Because there is a flexible exchange rate, supply and demand determine the value of each currency. When large amounts of a currency are supplied that currency will depreciate. A depreciated currency will not be able to purchase as much of a foreign currency; therefore, prices of foreign products will increase. When large amounts of a currency are demanded that currency will appreciate. An appreciated currency can purchase more of a foreign currency; therefore, the prices of those foreign products will decrease. Fore example, an American wishing to purchase a fine French perfume must provide U.S. dollars in order to buy French francs. Then and only then can he purchase the perfume. This supply of dollars depreciates the value of the U.S. dollar. The demand for francs appreciates the value of the French franc. Note the graphs:
The following problem will help students understand the effects of an appreciated or depreciated currency on its purchasing power.
EXCHANGE RATE: Dollars in foreign currency
| June 11, 1998 $1 = 6.022 francs |
June 12, 1998 $1 = 6.675 francs |
Judy purchased a bottle of French perfume costing 450 francs on June 11. How many U.S. dollars did she have to provide to pay for the perfume?
foreign price / exchange rate = U.S. dollar price
450 francs / 6.022 = $74.73
Sally bought the same perfume costing 450 francs on June 12. How many U.S. dollars did Sally have to provide to pay for the perfume?
foreign price / exchange rate = U.S. dollar price
450 francs / 6.675 = $67.42
When the U.S. dollar is strong on June 12, it can purchase more francs, causing the price of the perfume to be lower for Sally. The weak dollar of June 11 purchased less francs causing the price of the perfume to increase for Judy.
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