Political events, Natural disasters, War
This lesson will cover the following
- Political events
- Natural disasters and war
- Impact on exchange rates
Because the Forex market is a global, complex and inter-connected marketplace, events occurring at any place in the world usually have the potential to immediately cause an impact on exchange rates of currencies. In this article, we shall discuss a number of events that often occur globally and see in what way they may affect the Forex market.
Events, which occur in almost every nation, are the elections, which can pose a huge impact on a local currency. Elections could be considered by traders and analysts as an isolated case, suggesting political instability, something which usually triggers higher volatility in the local currency. In most cases, Forex traders would just keep track of pre-election polls in order to get an idea of what is to come. If a countrys government is expected to be changed, this could suggest that new ideology, new monetary or fiscal policies are to be proposed and implemented, while this could turn into a strong driving force behind the value of a currency.
Another case, which is worth mentioning, is an unexpected election. Whether it occurs as a result of a non-confidence vote, corruption scandals or other situations, such sudden and not projected elections have the potential to introduce chaos in the currency market. A very peculiar case can be an upheaval among citizens of a country. Such situation may lead to protests, walk-outs and even more extreme forms of civil unrest. These events may shake the foundations of a country, introducing economic uncertainty, potential loss of rating and higher political instability.
Instability in the political system of a country may neutralize any expected positive outcomes from a newly elected government in a short term, while the national currency may experience massive selling pressure. In a longer-term, on the other hand, such disturbances are usually expected to ease, while the national currency may remain in proximity to such exchange rates, that reflect countrys economic growth outlook.
Natural disasters and wars have a catastrophic influence on the value of currencies. The morale and infrastructure of a country can be severely harmed by natural disasters such as floods, tornadoes, earthquakes and hurricanes. Such disasters usually have the same negative effect on a nation’s currency.
Such examples were the earthquakes in Japan and New Zealand and their effect on currencies. At first, the currencies weakened because of the damage made to the economy. Then they strengthened due to the insurance funds sent to these countries from overseas in order to fund the repairs. After that the currencies decreased in value because of the actions performed by their central banks. The latter took measures to promote economic recovery by providing the financial market with additional funding and by reducing interest rates. This adversely influenced values of both currencies.
Another example, proving what we said above, has been the Triple Calamity in Japan in 2011 (an earthquake, a tsunami and a nuclear disaster), which delivered a brutal strike on local economy and also influenced global economy. The basic infrastructure forms the cornerstone of any economy. Therefore, damages or complete destruction of infrastructure may greatly restrain the economic output of a given region. Moreover, a possible reduction in consumer spending caused by the economic uncertainty, a probable decrease in consumer confidence, as well as in any economic advantage the country may have, clears the way to economic cataclysm. This becomes evident, especially when comparing the harmed nation to other countries, prospering from the other’s loss.
Similar to the case with a natural disaster, the impact of war on economy is almost always wide-scaled. As we already said, a damaged infrastructure suffocates a nations short-term economic viability, which could cost citizens and the government billions. A major part of these funds needs to be borrowed. An economy ravaged by war usually needs to be recovered with the aid of low-cost capital, which results from lower interest rates. This unavoidably leads to the devaluation of the local currency.
What conclusion can be reached? In most of these cases there is a total uncertainty regarding both future expectations and day-to-day development of the situation. Volatility of currencies engaged in war is at much higher levels than that of currencies, which stay out of the conflict.
However, there is another aspect, underscored by analysts – the potential economic gains from war. Sometimes war could bolster a seedling economy, and more specifically, the manufacturing sector, in case it is urged to focus its available capacity on war time production.