What is Foreign Exchange

Foreign Exchange is defined by the Oxford dictionary as the money of another country
i.e. foreign money. In India, every currency other than Indian rupees is foreign currency.
In the United States every currency other than US dollars is foreign currency.
As countries become globalized, as the world becomes smaller and trade becomes
international foreign exchange becomes important.
There are three fundamentals one must be aware of while dealing in foreign exchange:
1. All countries have their own currency and this currency is distinct and different from
that of others. India has the Rupee. Japan has its Yen. The United States has its
Dollars. The possession of the currency of a country is useful usually only in that
country because it is the legal tender of the country. In the United States, the US
dollar takes the form of money and can be used to buy things and pay for articles.
The Indian Rupee, on the other hand, though accepted in India, is unacceptable as
money in the United States. The only way it will be useful is if it is changed to dollars.
It is thus like a commodity. The factor that distinguishes foreign currency from other
commodities is that in the country where it is legal tender it is money.
2. The exchange of one currency for another is consummated by banks by book
keeping entries done in the two centres concerned.
3. All exchanges of a currency for another are affected with the help of credit
instruments.
Banks normally keep their holdings of foreign currency in Banks situated in the centres
where it is legal tender. These stocks are normally kept in current accounts in order to
facilitate transfers of funds. Banks normally term these accounts as Nostro Accounts.
Apart from small amounts carried by travelers large amounts are physically never
transferred from one country to another.
Foreign exchange is the reserves of foreign currency that a country has available to it, to
meet the requirements of its external trade.