What is a Commodity Block Currency
A commodity block currency is an accepted form of money that correlates strongly with the price of a specific commodity. Commodity block currencies have a significant proportion of a country’s economy depends upon the production and export of a particular commodity. As the global supply and demand, fluctuates, it affects the value of the currency of any country which relies heavily on that product’s export revenue.
Typical examples of commodities that may significantly affect a country’s currency are oil, natural gas, precious metals, and minerals.
BREAKING DOWN Commodity Block Currency
Commodity block currencies are a sign that a country’s exports are not well diversified. A country may export a significant amount of one commodity, but so long as it has other reliable sources of revenue and a variety of valuable exports, its currency should not be disproportionately affected by the market price and demand for a single commodity.
Looking at exchange rates for countries with commodity block currencies can serve as a useful tool for predicting the future prices of the underlying commodities. Commodity block currencies offer an opportunity to investors interested in commodities trading. A trader could potentially invest by taking a position in a specific commodity, for example, oil. They could then potentially reduce their own portfolio risk by holding an opposite trade on a currency that relates positively to the price of oil, such as the Canadian dollar.
Fluctuations of Commodity Block Currencies
Approximately one half of all of Russia’s export revenue comes from oil and natural gas. This single revenue stream causes the Russian ruble to be exceedingly affected by the price of oil. Thus, when the price of oil tumbled in 2014, the value of the ruble also sank significantly.
Peru’s currency, the Peruvian nuevo sol, correlates with the global price of copper. Peru holds approximately 13-percent of the world’s copper reserves, and its economy depends upon copper exports. Peru also produces and exports gold. However, because of the global demand for copper, that single commodity has the powerful effect on the value of the sol. The falling rate of copper brought the sol’s value down significantly toward the end of 2015.
Other commodity block currencies include the Australian dollar, which parallels iron ore. The Canadian dollar and Colombian peso, both of which follow the price of oil. In Colombia, approximately 20 percent of government revenue comes from the export of oil. Thus, the fluctuation of oil prices tends to affect that country’s economy greatly.