Why Exchange Rates Move: A Canadian Guide

What an exchange rate is

An exchange rate is the price of one currency expressed in another. It tells you how much of one currency is needed to buy a unit of another. For example, a Canadian dollar exchange rate against the U.S. dollar shows how many Canadian dollars are needed for one U.S. dollar.

Exchange rates are relative prices, not absolute values. They exist because countries use different currencies and because international trade, investment, and travel require currency conversion. The Bank of Canada publishes daily exchange rates that are widely used as reference rates in Canada.

The foreign exchange market is decentralised and operates around the clock during business days. Rates change constantly as financial institutions, businesses, investors, and governments buy and sell currencies. No single authority sets a floating exchange rate. Instead, the rate reflects the combined actions of many participants.

Supply and demand in the foreign exchange market

At its core, an exchange rate moves when the supply of, or demand for, a currency changes. Demand rises when foreigners want to buy goods, services, or assets priced in that currency. Supply rises when residents sell their currency to buy foreign goods, services, or assets.

If demand for a currency increases while supply stays the same, its price tends to rise. If supply increases faster than demand, its price tends to fall. These shifts happen continuously as new information reaches the market. Even rumours or expected policy changes can move a currency before anything official happens.

Market participants include exporters and importers, institutional investors, central banks, and individuals sending money abroad. Their combined transactions help determine the market price at any moment. No single trade sets the rate for long, because new orders arrive constantly.

Main drivers of exchange rate movements

Interest rates are a major driver. When a country's interest rates rise relative to others, assets in that currency may become more attractive, which can increase demand. When rates fall, the currency may weaken. Expectations about future central bank policy matter as much as current rates.

Inflation also matters. A country with persistently higher inflation than its trading partners may see its currency weaken over time, because its goods become less competitive and its purchasing power declines. Lower inflation can support a currency. Central banks often adjust interest rates to manage inflation, which links these two drivers.

Economic growth, employment, trade balances, and government debt influence investor confidence. Commodity prices are especially important for Canada because energy, metals, and agricultural products are major exports. Political stability and global risk sentiment can also move currencies quickly. A sudden election result or conflict can change demand within minutes.

Why the Canadian dollar moves

The Canadian dollar is a floating currency. Its value is determined by market forces, although the Bank of Canada can influence short-term interest rates and may intervene in rare circumstances. Canada's close trade relationship with the United States means the Canada-U.S. exchange rate is closely watched.

Commodity prices, especially crude oil, often affect the Canadian dollar because Canada is a major energy exporter. When global demand for commodities is strong, the Canadian dollar may strengthen; when commodity prices fall, it may weaken. Interest rate differences between Canada and other countries also matter.

Terms of trade, productivity, and global risk appetite play a role. During periods of financial stress, investors may seek currencies viewed as safe havens, which can affect the Canadian dollar regardless of domestic conditions. Canada's currency is also influenced by the prices of its major exports and by expectations for economic growth.

How exchange rates affect remittances and payments

For someone in Canada sending money abroad, a weaker Canadian dollar means each Canadian dollar buys less foreign currency. A stronger Canadian dollar means the recipient gets more foreign currency for the same amount. The exchange rate therefore directly affects the value of a remittance.

Rates also matter for businesses. A Canadian company paying a foreign supplier in euros or U.S. dollars may see costs rise or fall with the exchange rate. A freelancer receiving payment in a foreign currency may get more or fewer Canadian dollars when converting.

The exchange rate is separate from transfer fees. A provider may offer a favourable rate but charge higher fees, or a lower fee but a less favourable rate. The total amount received is what matters most. Always compare the final amount after all costs are applied.

Related terms: exchange rate, remittance, payment, transfer

An exchange rate is the price used to convert one currency into another. A payment is a general term for money sent to settle an obligation. A transfer is the movement of funds from one account or person to another.

Remittance often refers to money sent by a migrant worker to family or friends in another country. In Canadian tax and payroll contexts, remittance can also mean sending withheld taxes to the Canada Revenue Agency. The term depends on context.

These concepts overlap. An international remittance usually involves a currency exchange, a payment instruction, and a transfer of funds. The exchange rate is only one part of the total cost. Fees, processing time, and the receiving method also affect the outcome.

Common confusions and how to check rates

A common confusion is that a high exchange rate is always good or bad. It depends on whether you are buying or selling a currency. A strong Canadian dollar helps importers and outbound senders but can hurt exporters. A weak Canadian dollar does the opposite.

Another confusion is that the posted rate is the rate you get. Financial institutions and money services businesses may add a margin to the mid-market rate. The mid-market rate is the midpoint between buy and sell prices in wholesale markets, not a rate offered to retail customers.

People also confuse fixed and floating exchange rates. A fixed rate is pegged by a government or central bank. A floating rate, like Canada's, moves with market forces. Some countries use managed floats or pegs, which fall between these two extremes.

• Check the daily reference rate from the Bank of Canada.
• Ask what margin or fee is added to the rate.
• Compare the final amount the recipient will receive.
• Keep records for tax and accounting purposes.