What is the definition of a key currency?

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Key currency is a stable currency, one that does not vary too much, and as such, it may be used to assist fix exchange rates and facilitate international transactions. It's also used to impact the World's most significant currencies, an example of which is given below diagram. The British pound, the United States dollar, the euro, and the Japanese yen are all considered to be important currencies.

Illustration of key currencies

In international financial transactions, a key currency serves as a point of reference for the value of the transaction as It offers stability of exchange rates in the foreign exchange market by lending its currency to other countries. As a result, small nations choose to use key currencies in order to mitigate the currency risks associated with international commerce.

The Importance of a Key Currency

Key currencies influence and impacts the currencies of smaller and developing nations around the world. They assist in the completion of worldwide transactions, and the international debt obligations, and gives confidence to investors to make further investment.

Several countries also trade their key currencies for other important and more valuable global commodities like oil and gold. This could take place during a bilateral agreement between Governments or when heads of state meet and collaborate.

Nations that are devoid of such key currencies in Africa and in some parts of Asia utilize their own national currencies to buy on the key currencies that could prove to be immensely valuable. This helps them in local and international dealings as well as economic relations.

The United States Dollar as the World's Most Important Currency

The United States Dollar enjoys the number one position in the world and sits comfortably at the top solidifying its position in the international market. According to the 2020 IMF Data, the U.S Dollar is the most used currency in the world and it accounts to an astonishing foreign exchange currency reserves of 59.02% followed by Euro that is at a distant second at 21.2% and Japanese Yen is at third position at 6%.

While during times of Covid-19 and other financial crisis, the U.S Dollar has been steady and has not seen a sharp decline in its price as other markets have observed. Even after seven decades, it remains one of the most sought-after financial instrument for traders, individuals and business people. There have been questions raised on the growth potential of the U.S Dollar or the sudden growth of cryptocurrencies displacing them.

However, the dollar has not been replaced and is still regarded as the most valuable and risk-free investment worldwide. Due to it stability and worldwide worth of the United States dollar, several nations invest in assets designated in the currency of the United States.

The Most Important Currency Pairs

A currency pair is an estimate of the value of one currency in relation to another in the foreign exchange market. The currency that is being used as a reference is referred to as the quote currency, while the other currency is referred to as the base currency. The following are some of the most important currency pair combinations −

British Pound (GBP) vs U.S Dollar (USD)

Britain and the United States of America use to connect with each other via cable laid train in the 1800s over the Atlantic Ocean. The GBP & USD transactions are called “trading the cable” after that. 1 USD is 0.71 GBP.

U.S Dollar (U.S.D) V/s Japanese Yen (JPY)

A crucial part of key currencies, the U.S Dollar and Japanese Yen that are often areffered to as “Gopher”. Japanese yen and USD have had their fair share of controversies, due to the Yen’ buy low and sell high strategy. 1 U.S.D = 110 JPY

United States Dollar v/s the Canadian dollar (USD/CAD)

Canada and United States share borders and great friendship, that has resulted in excellent business and trade relations for Canada. The commodities are jointly referred to as “Loonie”. Despite the closeness in their bond, Canada relies heavily on the U.S.D. 1 U.S.D = 1.23 CAD

Updated on 02-Jul-2021 07:34:08