What is a 'Conversion Rate'

The conversion rate is the ratio between two currencies which shows how much of one money exchanges for another. A conversion rate is also known as foreign exchange rates. Because most currencies trade widely on global financial markets, conversion rates fluctuate regularly. This constant change can impact stock markets, interest rates, and economic activity worldwide.

BREAKING DOWN 'Conversion Rate'

​​​​​​​Because the conversion rate represents the price of one currency against another, it reflects the supply and demand for each currency. Supply and demand often have a basis on a country’s overall economy, interest rate, or government monetary policy. Monetary policy consists of the actions of a country's central bank, currency board or other regulatory committees who determine economic policy which affects the money supply, industry growth, interest rates, and the currency rate. 

If the supply of available currency grows too large, it becomes devalued and may not be as attractive in foreign exchange markets. As a result, its price might fall. A government or central bank might take steps to increase the nation’s money supply as part of an economic stimulus policy, but that extra supply could weaken its currency worldwide.

The demand for a currency can also change. One factor that influences demand is a country’s interest rate policy. If the prevailing interest rate for currency rises, currency demand could increase as well. Individuals and organizations may prefer to hold assets in that currency instead of others. Other factors which can cause conversion rates to fluctuate include balance of trade (BOT), perceived inflation risk, and political stability.

Conversion Rate in Action

Conversion rate represents the relative value between two currencies. It is essentially the price measure of one currency against another. As the rate changes, one country's money can become weaker or stronger against other currencies. For example, if the euro/U.S. dollar conversion rate is 1.25, that means one euro can equate to $1.25 in American currency. Or if the U.S. dollar/Indian rupee conversion rate is 65.2, then one U.S. dollar is worth 65.2 Indian rupees.

If the euro/U.S. dollar conversion rate fell from 1.25 to 1.10, then one euro could only be converted into $1.10 instead of $1.25. In this case, the U.S. dollar becomes stronger against the euro and the euro weaker against the U.S. dollar. This related strength means goods and services priced in U.S. dollars become comparatively more expensive when purchased with euros. A more expensive product can be a disadvantage to U.S. businesses wishing to sell in Europe. Likewise, a stronger U.S. dollar would also make products priced in euros less expensive for buyers in the U.S.  In this case, European businesses selling in the United States could benefit because prices for their products and services would seem lower.

However, if the conversion rate changes in the opposite direction, the U.S. dollar becomes weaker against the euro. If the rate rose from 1.25 to 1.35, then one euro could buy more dollar-priced goods and seem less expensive to European buyers. In turn, European businesses selling in the United States could be at a disadvantage because U.S. buyers would need more dollars to purchase items priced in euros.

RELATED TERMS
  1. Conversion Option

    Certain mortgages may offer a conversion option that would let ...
  2. International Currency Converter

    An electronic program that allows for the quick conversion of ...
  3. Conversion Value

    The financial worth of a convertible security if its call option ...
  4. Dollar Rate

    The dollar rate is the exchange rate of a currency against the ...
  5. Conversion Ratio

    The number of common shares received at the time of conversion ...
  6. Market Conversion Price

    The cost of converting a convertible security into a common stock, ...
Related Articles
  1. Trading

    The impact of currency conversions

    In this article, we'll explore the impact of currency price conversions on consumers, companies, and countries.
  2. Trading

    Top 5 Hardest-Hit Currencies

    The value of a country's currency is dependent on many factors that will cause it to fluctuate, relative to other world currencies.
  3. Trading

    Understand the Indirect Effects of Exchange Rates

    Exchange rates have a tremendous influence on the economy. Exchange rates can indirectly affect many of the most important aspects of our lives.
  4. Trading

    Interest Rate and Currency Value And Exchange Rate

    In general, higher interest rates in one country tend to increase the value of its currency.
  5. Investing

    Protect your foreign investments from currency risk

    Hedging against currency risk can add a level of safety to your offshore investments.
  6. Trading

    Top Economic Factors That Depreciate The $US

    A variety of factors contribute to currency depreciation, including monetary policy, inflation, demand for currency, economic growth and export prices.
  7. Trading

    Profiting From a Weak U.S. Dollar

    Learn how to allocate your investments when the U.S. dollar is down.
  8. Trading

    Why the Euro Failed to Become the World's Reserve Currency

    Examine the current state of the U.S. dollar as the world's reserve currency; learn the major reasons why the euro has failed to replace it in that capacity.
RELATED FAQS
  1. What is a currency converter and how do I use one?

    A currency converter is a calculator that converts the value or quantity of one currency into the relative values or quantities ... Read Answer >>
  2. How are international exchange rates set?

    Knowing the value of your home currency in relation to different foreign currencies helps investors to analyze investments ... Read Answer >>
  3. How do national interest rates affect a currency's value and exchange rate?

    Generally, higher interest rates increase the value of a given country's currency, but Interest rates alone do not determine ... Read Answer >>
Hot Definitions
  1. Economies of Scale

    Economies of scale refer to reduced costs per unit that arise from increased total output of a product. For example, a larger ...
  2. Quick Ratio

    The quick ratio measures a company’s ability to meet its short-term obligations with its most liquid assets.
  3. Leverage

    Leverage results from using borrowed capital as a source of funding when investing to expand the firm's asset base and generate ...
  4. Financial Risk

    Financial risk is the possibility that shareholders will lose money when investing in a company if its cash flow fails to ...
  5. Enterprise Value (EV)

    Enterprise Value (EV) is a measure of a company's total value, often used as a more comprehensive alternative to equity market ...
  6. Relative Strength Index - RSI

    Relative Strength Indicator (RSI) is a technical momentum indicator that compares the magnitude of recent gains to recent ...
Trading Center