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Foreign exchange market

The market where dealings are made which, in the absence of controls, determine the rate of exchange of one currency with another. The market is not in any particular place but consists of a web of dealings between banks and various dealers in bills of exchange and foreign currency. However, it is never quite free, particulariy in the U.K., where its operations are studied and manipulated by the Bank of England, which acts on behalf of the State through the exchange equalization account or on its own account, and by the operation of any prevailing system of exchange control. The International Monetary Fund also exists partly as a watchdog over the exchange markets of the worid.

Dealings in currencies may be either ‘spot’ or ‘forward’. Spot dealings are those made and completed at the current rate. Forward dealings are those where a person or a company agrees to buy a given amount of another currency at a future date stated but at a rate fixed in the agreement. Whilst forward dealings can be purely speculative they can also be necessary, e.g. where an importer arranges a purchase for which he will not need the money until some future date, or where he anticipates making sales or purchases some time ahead and wishes to discount one of the two unknown factors – the future price and the future rate of exchange. Dealers in foreign exchange will usually quote both the spot rate and forward rate; the latter depends on the number of months required – usually limited to three.

Reference: The Penguin Business Dictionary, 3rd edt.