History of FOREX trading
Forex trading has made massive outbreaks over the recent years and has turned out to be the most search result regarding trading opportunities.
How did it start ?
Forex trading finds its origins centuries ago. Indeed, the diversity of currencies as well as the need to trade them goes back up to the Babylonians. They were the first starting to use paper notes and receipts. Back then, speculation hardly ever happened, and the undergoing speculative activity in the market today would have certainly been frowned upon.
Before the creation of currency, nations traded goods directly, “paying” for one good by bartering it for another. The increasing need to have a common support for trading led to the creation of money. In the beginning, trading partners would use a common form of money to conduct their business, which was usually gold or silver. Eventually the benefits of paper currency became evident, but since each country issued its own currency, it appeared to be too limited for international trading. Indeed, the purchasing power of each currency differed considerably and could differ over time depending on how much money supply the countries would issue.
Coins were initially minted from the preferred metal and in stable political regimes, the introduction of a paper form of governmental I.O.U. during the Middle Ages also gained acceptance. This type of I.O.U. was introduced more successfully through force than through persuasion and is now the basis of today's modern currencies.
Before the First World War, most Central banks supported their currencies with convertibility to gold. But, the gold exchange standard had its weaknesses of boom-bust patterns. As an economy strengthened, it would import a great deal from out of the country until it ran down its gold reserves required to support its money; as a result, the money supply would diminish, interest rates escalate and economic activity slowed to the point of recession. Ultimately, prices of commodities hit bottom, appearing attractive to other nations, who would sprint into buying fury that injected the economy with gold until it increased its money supply, drive down interest rates and restore wealth into the economy. However, for this type of gold exchange, there was not necessarily a Central bank need for full coverage of the government's currency reserves. This did not occur very often, however when a group mindset fostered this disastrous notion of converting back to gold in mass, panic resulted in so-called "Run on banks " The combination of a greater supply of paper money without the gold to cover led to devastating inflation and resulting political instability.
The Great Depression and the removal of the gold standard in 1931 created a serious lull in the Forex market activity. From 1931 until 1973, the Forex market went through a series of changes. These changes greatly affected global economies at the time and speculation in the Forex market during these times wasn’t substantial.
In order to protect national interests, increased foreign exchange controls were introduced to prevent market forces from punishing monetary irresponsibility.
Near the end of World War II, the Bretton Woods agreement was reached on the initiative of the USA in July 1944. The conference held in Bretton Woods, New Hampshire, rejected John Maynard Keynes’ suggestion for a new world reserve currency in favor of a system built on the US Dollar. The new system required that each country valued its currency in terms of gold or the United States dollar, which, of course, fixed the exchange rate among all currencies. The countries were required to maintain the exchange rate to within 1% of the peg, but, if special circumstances required, they could allow the exchange rate to fluctuate by up to 10%. However, if this was not adequate, then the country would have to seek approval from the IMF board to change the exchange rate by more than 10%. This prevented countries from devaluing their currency for their own benefit.
To maintain the limits, a country could:
- use official reserves, which is the foreign currency held by a country from a previous surplus.
- borrow from the IMF by borrowing the foreign currency, and using its own currency as collateral.
- sell gold to a country for its currency.
The Bretton Woods system came under increasing pressure as national economies moved in different directions during the 1960's. A number of realignments held the system alive for a long time but eventually Bretton Woods collapsed in the early 1970's following president Nixon's suspension of the gold convertibility in August 1971. The dollar was not any longer suited as the sole international currency at a time when it was under severe pressure from increasing US budget and trade deficits.
The Birth of the Foreign Currency Exchange
The foreign currency exchange market was born when floating exchange rates began to materialize because Bretton Woods agreement was abandoned in 1971.
This advancement was welcomed with open arms by the International companies who had often noticed big profit changes both positive and negative simply based on the value of their native currency against the value of the currencies in the markets in which they traded their day to business activities.
These companies would see fluctuating exchange rates affect their profit and loss accounts, often with millions being made or lost simply on the value of one currency against another.
It was also these companies that were first to spot the huge money making opportunity currency fluctuations offered and these same companies were the first to leap on to the Forex trading bandwagon and attempt to increase their profit margins through brave yet profitable currency exchange decisions.
The European Economic Community introduced a new system of fixed exchange rates in 1979: the European Monetary System. The quest for currency stability continued in Europe with the 1991 signature of the Maastricht Treaty. The goal was not only to ensure fixed exchange rates, but also to plan the replacement of many of the national currencies into Euro. London was, and remains the principal offshore market. In the 1980s, it became the key center in the Euro/Dollar market when British banks began lending dollars as an alternative to pounds in order to maintain their leading position in global finance.
In Asia, the lack of sustainability of fixed foreign exchange rates has gained new relevance with the events in South East Asia in the latter part of 1997, where currency after currency was devalued against the US dollar, leaving other fixed exchange rates in particular in South America also looking very vulnerable.
While commercial companies have had to face a much more volatile currency environment in recent years, investors and financial institutions have discovered a new playground. The Forex exchange market initially worked under the central banks and the governmental institutions but later on it accommodated the various institutions, at present it also includes the dot com booms and the World Wide Web. The size of the Forex market now dwarfs any other investment market. The foreign exchange market is the largest financial market in the world. Approximately 4 trillion dollars are traded daily in the foreign exchange market.