For example, in India the currency in circulation is called the rupee INR and in the United

States, the currency in circulation is called the US Dollar (USD).

An example of a Forex trade is to sell the Indian rupee while simultaneously buying the
US Dollar.
Forex market has no geographical location, it is electronically linked network and is open
24 hours a day.
The value for which one currency is exchanged for another or the value of one currency
in terms of another currency is called exchange rate. For example, US dollar can be
bought for 63 INR rupees. This is the exchange rate for Indian rupees in US dollars.
The foreign exchange market in India started when in 1978 the government allowed
banks to trade foreign exchange with one another. Foreign Exchange Market in India
operates under the Central Government of India and executes wide powers to control
transactions in foreign exchange. The Foreign Exchange Management Act, 1999 or
FEMA regulates the whole Foreign Exchange Market in India. Before the introduction of
this act, the foreign exchange market in India was regulated by the Reserve Bank of India
through the Exchange Control Department, by the Foreign Exchange Regulation Act or
FERA, 1947. Interbank foreign exchange Trading is regulated by the Foreign Exchange
Dealers Association of India (FEDAI) created in 1958, a self-regulatory voluntary
association of dealers or banks specializing in the foreign exchange activities in India that
regulates the governing rules and determines the commissions and charges associated
with the interbank foreign exchange business. Since 2001, clearing and settlement
functions in the foreign exchange market are largely carried out by the Clearing
Corporation of India Limited (CCIL) that handles transactions of approximately 3.5 billion
US dollars a day, about 80% of the total transactions.
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The foreign exchange market in India consists of 3 segments or tires. The first consists
of transactions between the RBI and the authorized dealers (AD). The latter are mostly
commercial banks. The second segment is the interbank market in which the AD’s deal
with each other. And the third segment consists of transactions between AD’s and their
corporate customers. As in any market essentially the demand and supply for a particular
currency at any specific point in time determines its price (exchange rate) at that point.
Prior to 1990s fixed Exchange rate of the rupee was officially determined by RBI.
During the early years of liberalization, the Rangarajan committee recommended that
India’s exchange rate be flexible. India moved from a fixed exchange rate regime to
“market determined” exchange rate system in 1993. This is explained as under..
A country’s currency exchange rate is typically affected by the supply and demand for the
country’s currency in the international foreign exchange market. Let’s take the example
of Rupee Dollar exchange. The rupee/dollar rate is a two-way rate which means that the
price of 1 dollar is quoted in terms of how much rupees it takes to buy one dollar. The
value of one currency against another is based on the demand of the currency. If the
demand for dollar increases, the value of dollar would appreciate. As the quotation for
Rs/$ is a two way quote, an appreciation in the value of dollar would automatically mean
the depreciation in Indian rupee and vice-versa. Besides the primary powers of demand
and supply, the Indian exchange rate is affected by following factors:

 RBI Intervention: When there is too much volatility in the rupee-dollar rates, the
RBI prevents rates going out of control to protect the domestic economy. The
RBI does this by buying dollars when the rupee appreciates too much and by
selling dollars when the rupee depreciates way too much.
 Inflation: When inflation increases there will be less demand of domestic goods
and more demand of foreign goods i.e. increases demand for foreign currency),
thus value of foreign currency increases and home currency depreciates thus
negatively affecting exchange rate of home currency.
 Imports and Exports: Importing foreign goods requires us to make payment in
foreign currency thus strengthening the foreign currency’s demand. Increase in
demand increases the value of foreign currency and exports do the reverse.
 Interest rates: The interest rates on Government bonds in emerging countries
such as India attract foreign capital to India.
If the rates are high enough to cover foreign market risk, money would start
pouring in India and thus would provide a push to rupee demand thus
appreciating rupee value for exchange.
 Operations: The major sources of supply of foreign exchange in the Indian
foreign exchange market are receipts on account of exports and invisibles in the
current account, drafts, travellers cheque and inflows in the capital account such
as foreign direct investment (FDI), portfolio investment, external commercial
borrowings (ECB) and non-resident deposits. On the other hand, the demand for
foreign exchange rises from imports and invisible payments in the current
account, amortisation of ECB (including short-term trade credits) and external
aid, redemption of NRI deposits and outflows on account of direct and portfolio
investment.

Types of foreign market operations

 Spot market (current market): Spot market for foreign exchange is that market
which handles only spot transactions or current transactions. Spot rate of
exchange prevails at the time when transactions are incurred. it is of daily nature.
 Forward market (derivative market): It is meant for future delivery i. determines
forward exchange rate at which forward transaction are to be honored. It deals in
following instruments: foreign exchange forwards, currency futures, currency
swaps, currency options.
 Exchange settlement and dealings: Nostro and Vostro account facilitate
settlement of foreign exchange transaction.

Nostro account: A foreign currency ac maintained by a bank in India with a bank in

abroad. For example, Bank of India US dollar account with Citi bank.
Vostro account: A rupee account of a foreign bank abroad with a bank in India. For
example, Citi bank rupee ac with bank of India.