Introduction to foreign exchange basics: how the balance of payments affects the foreign exchange market

The balance of payments is a comprehensive reflection of all foreign economic and financial activities of a country's residents. This indicator not only reflects the country's status on the international economic stage, but also directly affects the operation of macro- and micro-economies. In essence, the balance of payments situationforeign exchange marketThe impact is ultimately reflected in how the supply and demand relationship of foreign exchange affects exchange rate changes. For example, an economic transaction (such as commodity exports) or a capital transaction (such as foreign direct investment) generates foreign exchange earnings.

Since foreign exchange is not usually freely circulated in the domestic market, it is necessary to exchange foreign currency into the domestic currency in order to use it in the domestic economic cycle. This process forms the supply in the foreign exchange market. Conversely, foreign exchange expenditures are incurred due to economic activities such as importing goods or investing overseas. To meet these demands, traders need to exchange their own currency for foreign currencies, thus forming a demand for foreign exchange in the foreign exchange market. By summarizing these transactions and recording them in the balance of payments statistics, the country's foreign exchange balance and expenditure situation is formed. If foreign exchange income exceeds expenditure, the supply of foreign exchange increases; if expenditure exceeds income, the demand for foreign exchange increases.

When the supply of foreign exchange increases, the demand remains unchanged, causing the foreign exchange price to fall and the value of the local currency to rise accordingly; conversely, when the demand for foreign exchange increases and the supply remains unchanged, the foreign exchange price will rise and the value of the local currency will decline accordingly.

A country's balance of payments situation directly triggers fluctuations in its local currency exchange rate. The balance of payments comprehensively reflects the overall situation of a country's residents in foreign economic and financial transactions, and indirectly reflects the country's international economic status, and has a profound impact on domestic macro- and micro-economic operations. The effect of the balance of payments situation on the exchange rate is ultimately realized through the supply and demand relationship of foreign exchange.

Foreign exchange earnings generated by economic activities such as exports or capital transactions such as foreign investment cannot usually be used directly in the local market. Therefore, foreign currencies need to be exchanged into domestic currencies, a process that provides supply for the foreign exchange market. Economic activities such as imports or overseas investments generate foreign exchange expenditures, and investors need to convert their own currencies into foreign currencies, thus creating demand for GMI foreign exchange.

A unified summary of these transactions into the balance of payments statistics provides a clear picture of the country's foreign exchange balance. If income exceeds expenditure, supply increases; if expenditure exceeds income, demand rises. An increase in supply and constant demand drives down the price of foreign exchange and the value of the currency; an increase in demand and constant supply push up the price of foreign exchange and lower the value of the currency.

In order to meet these economic activities, there is a corresponding demand for foreign exchange in the foreign exchange market.