What is the role of exchange rates?

28 June 2016

What are exchange rates?

An exchange rate is the rate at which one currency can be exchanged for another currency. For example, €1 could be exchanged for $1.13. This rate changes constantly on global foreign exchange markets where all kinds of currencies are traded. The euro is one of the most traded currencies, along with the US dollar, the Japanese yen and pound sterling.

Does the ECB provide exchange rates?

Every day at around 16:00 CET, the ECB publishes euro foreign exchange reference rates for 31 currencies. These reference rates are meant for information purposes only. The rates are often used by companies and the public for annual financial statements, tax returns, statistical reports and economic analysis, for example. The rates of the 31 currencies against the euro are averages of buying and selling rates and do not necessarily reflect the rates at which actual market transactions have been made. When you exchange currency, the rate used is derived from real time market rates.

The ECB also publishes a nominal effective exchange rate of the euro based on weighted averages of bilateral euro exchange rates against the currencies of 19 trading partners of the euro area. This rate indicates whether it is getting more or less expensive on average to exchange foreign currency for euro.

How do exchange rates affect monetary policy?

The exchange rate is not a policy target of the ECB. This means that the ECB does not try to influence the exchange rate with its monetary policy operations. The G20 group of major economies has committed to refraining from competitive devaluations and from targeting exchange rates for competitive purposes, while resisting all forms of protectionism.

Exchange rates do have implications for price stability and growth. For example, exchange rates affect prices in international trade. When more US dollars can be obtained for €1, in other words when the euro appreciates, US products become less expensive for people in the euro area. As a result, import prices fall. This has a direct impact on inflation in the euro area, via the prices of imported goods for consumption, and also indirect via the prices of imported raw materials and intermediate goods used for production.

The ECB needs to watch such developments carefully when setting monetary policy to fulfil its mandate – keeping inflation below, but close to, 2% over the medium term.