An exchange rate is the price of one nation’s currency in terms of another nation’s currency. Since the value of money in any nation depends on its purchasing power, the demand for money is based on its ability to maintain the value and on the level of economic activity. Thus, exchange rates respond to force of demand and supply. In addition, under the absence of government intervention, exchange rates are dependent on relative inflation rates, interest rates, and GDP growth rates. Let us take a closer look at these factors to see how the exchange rate can be affected. A country with a consistently lower inflation rate exhibits a rising currency value, as its purchasing power increases relative to other currencies. For countries with higher inflation, they typically see depreciation in their currency in relation to the currencies of their trading partners. This is also usually accompanied by higher interest rates. Second factor is interest rate. Higher interest rates offer lenders a higher return relative to other countries. Therefore, higher interest rates attract foreign capital and cause the exchange rate to rise. The impact of higher interest rates is mitigated, however, if inflation in the country is much higher than in others, or if additional factors serve to drive the currency down. The opposite relationship exists for decreasing interest rates - that is, lower interest rates tend to decrease exchange rates. For the GDP growth rates, the high the growth rate is, the more appreciate the currency will be. More than that, the productivity of the economy is also another factor that could alter the exchange rate. Overall, the exchange rate is a measurement of incentives between the money values of two countries. Depending on several factors, such as inflation rate, interest rate, government intervention, productivity, etc..., the exchange rate will change along with the change of the above factors.