The History of Forex

The Foreign Exchange market, ("FX or Forex") as we know it today, originated in 1973.
However, money has been around in one form or another since the time of Pharaoh. The
Babylonians are credited with the first use of paper bills, and receipts. Middle eastern
moneychangers were the first currency traders exchanging coins of one culture for another.
During the middle ages, the need for another form of currency besides coins emerged as the
method of choice. These paper bills represented transferable third party payments of funds; this
made foreign exchange much easier for merchants and traders and caused the regional
economies to flourish.
From the infantile stages of Forex during the Middle Ages to WWI, the Forex markets were
relatively stable and without much speculative activity. After WWI the Forex Markets became
very volatile and speculative activity increased ten fold. Speculation in the Forex market was not
looked on as favorable by most institutions and the public in general. The Great Depression and
the removal of the gold standard in 1931 created a serious lull in Forex activity. From 1931 until
1973, the Forex market went through a series of changes. These changes greatly impacted the
global economies at the time. Speculation in the Forex markets during these times was little if
any.
The Bretton Woods Accord
The first major transformation, the Bretton Woods Accord, occurred toward the end of World
War II. The United States, Great Britain and France met at the United Nations' Monetary and
Financial Conference in Bretton Woods, New Hampshire to design a new economic order. This
location in the U.S. was chosen because, at the time, was the only country unscathed by war.
Most of the European countries were in shambles. Up until WWII, Great Britain and the British
Pound had been the major currencies by which most currencies were compared. This changed
when the Nazi campaign against Britain included a major counterfeiting effort against its
currency. In fact, WWII vaulted the US dollar from a has been currency after the stock market
crash of 1929 to the benchmark by which most currencies were compared. The Bretton Woods
Accord was established to create a stable environment by which global economies could reestablish themselves. The Bretton Woods Accord established the pegging of currencies and the
International Monetary Fund ("IMF") in hopes of stabilizing the global economic situation.
Major Currencies were pegged to the US dollar. These currencies were allowed to fluctuate by
one percent on either side of the set standard. When a currency's exchange rate would approach
the limit on either side of this standard, the respective central bank would intervene, thus
bringing the exchange rate back into the accepted range. In addition to this, the US dollar was
pegged to gold at a price of $35 per ounce. Pegging the dollar to gold and the pegging of the
other currencies to the dollar brought stability to the world Forex situation.

The Bretton Woods Accord lasted until 1971. Ultimately, it failed but did accomplish what it's
charter set out to do, which was to re-establish economic stability in Europe and Japan.
The Beginning of the free-floating system
After the Bretton Woods Accord came the Smithsonian agreement in December of 1971. This
agreement was similar to the Bretton Woods Accord but allowed for greater fluctuation band for
the currencies. In 1972, the European community tried to move away from their dependency on
the dollar. The European Joint Float was established by West Germany, France, Italy, the
Netherlands, Belgium and Luxemburg. This agreement was similar to the Bretton Woods Accord,
but allowed a greater range of fluctuation in the currency values.
Both agreements made mistakes similar to the Bretton Woods Accord and, by 1973, collapsed.
The collapse of the Smithsonian agreement and the European Joint Float in 1973 signified the
official switch to the free-floating system. This occurred by default as there were no new
agreements to take their place. Governments were now free to peg their currencies, semi-peg or
allow them to freely float. In 1978, the free-floating system was officially mandated.
Europe tried, in a final effort to gain independence from the dollar, by creating the European
Monetary System in July of 1978. This, like all of the earlier agreements, failed in 1993.
The major currencies today move independently of other currencies. The currencies are traded by
anyone who wishes. This has caused a recent influx of speculation by banks, hedge funds,
brokerage houses and individuals. Central banks intervene on occasion to move or attempt to
move currencies to their desired levels. The underlying factor that drives today's Forex markets,
however, is supply and demand. The free-floating system is ideal for today's markets. It will be
interesting to see if in the future our planet endures another war similar to those of the early 20th
century. If so, how will the Forex markets be impacted? Will the dollar be the safe haven it has
been for so many years? Only time will tell.

Forex Market History

This article is an overview into the historical evolution of the foreign exchange market. It follows
the historical roots of the international currency trading from the days of the gold exchange,
through the Bretton Woods Agreement, to its current setting.

The Gold exchange period and the Bretton Woods

Agreement.
The Bretton Woods Agreement, established in 1944, fixed national currencies against the dollar,
and set the dollar at a rate of 35USD per ounce of gold. In 1967, a Chicago bank refused to make

a loan in pound sterling to a college professor by the name of Milton Friedman because he had
intended to use the funds to short the British currency. The banks refusal to grant the loan was
due to the Bretton Woods Agreement.
This agreement aimed at establishing international monetary steadiness by preventing money
from taking flight across countries, and curbing speculation in the international currencies. Prior
to Bretton Woods, the gold exchange standard dominant between 1876 and World War I ruled
over the international economic system. Under the gold exchange, currencies experienced a new
era of stability because they were supported by the price of gold.
However, the gold exchange standard had a weakness of boom-bust patterns. As an economy
strengthened, it would import a great deal until it ran down its gold reserves required to support
its currency. As a result, the money supply would diminish, interest rates escalate and economic
activity slowed to the point of recession. Ultimately, prices of commodities would hit bottom,
appearing attractive to other nations, who would sprint into a buying fury that injected the
economy with gold until it increased its money supply, driving down interest rates and restoring
wealth into the economy. Such boom-bust patterns abounded throughout the gold standard until
World War I temporarily discontinued trade flows and the free movement of gold.
The Bretton Woods Agreement was founded after World War II, in order to stabilize and regulate
the international Forex market. Participating countries agreed to try to maintain the value of their
currency within a narrow margin against the dollar and an equivalent rate of gold as needed. The
dollar gained a premium position as a reference currency, reflecting the shift in global economic
dominance from Europe to the USA. Countries were prohibited from devaluing their currencies
to benefit their foreign trade and were only allowed to devalue their currencies by less than 10%.
The great volume of international Forex trade led to massive movements of capital, which were
generated by post-war construction during the 1950s, and this movement destabilized the foreign
exchange rates established in the Bretton Woods Agreement.
1971 heralded the abandonment of the Bretton Woods in that the US dollar would no longer be
exchangeable into gold. By 1973, the forces of supply and demand controlled major
industrialized nations currencies, which now floated more freely across nations. Prices were
floated daily, with volumes, speed and price volatility all increasing throughout the 1970s, and
new financial instruments, market deregulation and trade liberalization emerged.
The onset of computers and technology in the 1980s accelerated the pace of extending the
market continuum for cross-border capital movements through Asian, European and American
time zones. Transactions in foreign exchange increased intensively from nearly $70 billion a day
in the 1980s, to more than $1.5 trillion a day two decades later.
Read more about the history of gold trading.

The explosion of the Euro market

The rapid development of the Eurodollar market, where US dollars are deposited in banks
outside the US, was a major mechanism for speeding up Forex trading. Likewise, Euro markets

are those where assets are deposited outside the currency of origin. The Eurodollar market first
came into being in the 1950s when the Soviet Unions oil revenue all in US dollars was being
deposited outside the US in fear of being frozen by US regulators. That gave rise to a vast
offshore pool of dollars outside the control of US authorities. The US government imposed laws
to restrict dollar lending to foreigners. Euro markets were particularly attractive because they had
far fewer regulations and offered higher yields. From the late 1980s onwards, US companies
began to borrow offshore, finding Euro markets an advantageous place for holding excess
liquidity, providing short-term loans and financing imports and exports.
London was and remains the principal offshore market. In the 1980s, it became the key center in
the Eurodollar market when British banks began lending dollars as an alternative to pounds in
order to maintain their leading position in global finance. Londons convenient geographical
location (operating during Asian and American markets) is also instrumental in preserving its
dominance in the Euro market.
Forex market participants

All operations on financial market are done via the system of special institutions: central banks,
commercial banks, dealers and brokers. Every Forex participant has its own volume of deals on
the currency market. For example, central banks have the biggest turnover that exceeding
hundreds of millions US dollars a day. Commercial banks and dealers have smaller turnover.
Daily turnover of brokers is considered to be about 25-30 millions of US dollars that makes 2%
from the general volume of all Forex trading.
Central banks of countries

These banks regulate money and credit flows with instruments defined by law. The main
functions of central banks are emission (issue) of money, carrying out of monetary and credit
policy and national currency policy. For example if a bank carries out currency intervention it
may lead to the rise or fall of the national currency rate.
Commercial banks

These are financial intermediaries that accept deposits from legal and private persons, take
advantage of investing this money, return it to depositors, close and operate bank accounts.
Every country has some big commercial banks that are able to influence currency rates. In 2006
the Deutsche Bank turnover was of 19.26% from the whole Forex market turnover

Brokers
Brokers are legal or private persons that represent agents or
negotiators in trading who meet buyer and seller of securities or
currency together. Broker works in the name, by order and at the
expense of his client and may provide some additional services.

Broker gets a commission bonus for fulfilling customer's orders.

Dealers
Dealers are companies or private persons that operate on the
market at their own expense and in their own name, in other
words they sell and buy currencies or any other assets with their
own money
Fundamental Forex Factors

Primary Fundamental Information Types

The types of fundamental data items which will most impact a
country's currency along with a brief description of its likely
effect include the following:
Growth: Changes in the country's Gross Domestic Product
or GDP that gives a useful measure of growth. A growing
economy tends to strengthen a currency.
Rates: The level of short term interest rates, such as the
Fed Funds rate, in the currency's country of origin affect
forex rates because higher rates provide an investment
incentive that should strengthen the currency. Read more
on this here.
Trade: The country's trade and current account balance can
have an impact on forex rates since persistent trade or
current account deficits will tend to depreciate that
country's currency.

 Economy: The general economic outlook for one country

in relation to that of the other country can affect forex rates.
The forex market tends to value currencies of peaceful
countries with growing economies and stable politics over
the currencies of less stable countries that are at war or
having their national security threatened in some other way.
Key Economic Factors
Many forex traders perform a daily review of economic calendars for the currency pairs they
maintain positions in. They do so since the release of such key information can often result in
considerable short term volatility in the currency market, as well as prompt shifts in market
sentiment.
A list of key economic factors that are routinely covered in the current news and which can move
the market when they are released includes the following:

Interest Rates: a key element in evaluating one currency

against another. If interest rates are increased, the currency
of the country becomes more attractive against other
currencies offering lower interest rates.
Inflation: If the country is in an inflationary economic
cycle indicated by the Consumer and Producer Price
Indexes, CPI and PPI, this would make it more likely that
the central bank of that country would tighten interest rates
in order to stem the increase in inflation. An increase in
rates would tend to make the currency appreciate.
Trade or Currency Account Balance: A trade or current
account surplus or deficit will either favor the currency rate
for the country with a surplus or weaken the rate for the
country with a trade deficit.

 Credit: Another economic factor that will influence

exchange rates directly. If a country has borrowed
excessively large sums of money from other nations or
from the IMF, its currency will surely reflect the serious
level of debt the country is in.

Gross Domestic Product (GDP): Represents the

total of goods and services a country produces and
reflects the level of growth in the economy.
Commodity Prices: Can affect exchange rates when
the country is a producer and net exporter of
commodities and if the country imports commodities.
Employment Data: If a country has an increasing
percentage of its citizens employed that will tend to
strengthen its currency. This key data typically comes
in the form of jobless claims, payrolls statistics or the
unemployment rate for a country.
Industrial Production: A strong industrial base will
tend to strengthen a nation's currency.
Retail Sales: A strong retail sales figure is generally
favorable for a currency and the country's overall
economy.

Consumer Price Index (CPI): A measure of

inflation. Rising inflation in a country indicates that
interest rates may soon be tightened by the national

central bank and so will tend to make its currency

appreciate.
Other factors

Supply and Demand Effects: Substantial flows of

capital into one currency and out of another currency,
perhaps as a result of large corporate transactions or
managed portfolio shifts, can shift the exchange rate
for the currency pair to favor whichever currency
sees the higher demand.
Monetary Policy: Because of the effect of monetary
policy on interest rates, this makes up an important
element in the valuation of a currency. Tighter
monetary policy implying higher interest rates, while
dovish or looser monetary policy indicating lower
interest rates.
Political Influences: Countries with stable
governments tend to have their currencies favored
over those of countries with less favorable political
situations. Greater fiscal responsibility also tends to
support a country's currency, while excessive
government spending will tend to depreciate its
currency.
Commodity Price: The prices of key commodities
like gold and oil tend to affect the valuation of the

currencies of their primary exporters and importers.

For example, higher oil prices help the British Pound
and the Canadian Dollar, while they hurt the U.S.
Dollar and the Japanese Yen, whose countries net
import oil. Furthermore, higher gold prices tend to
favorably impact the Australian Dollar, and by close
association the New Zealand Dollar, since Australia
exports that precious metal and so its currency will
benefit from a rise in gold's value.
Technical Analysis
Technical Analysis is probably the most
common and successful means of making
trading decisions and analyzing forex and
commodities markets.
Technical analysis differs from
fundamental analysis in that technical
analysis is applied only to the price action
of the market, ignoring fundamental
factors. As fundamental data can often
provide only a long-term or "delayed"
forecast of exchange rate movements,
technical analysis has become the primary
tool with which to successfully trade
shorter-term price movements, and to set
stop loss and profit targets.

 Technical analysis consists primarily of a

variety of technical studies, each of which
can be interpreted to generate buy and
sell signals or to predict market direction.
Please see our Technical Studies page for
a detailed description of these studies and
their uses.
Support and Resistance Levels
One use of technical analysis, apart from
technical studies, is in deriving "support"
and "resistance" levels. The concept here
is that the market will tend to trade above
its support levels and trade below its
resistance levels. If a support or
resistance level is broken, the market is
then expected to follow through in that
direction. These levels are determined by
analyzing the chart and assessing where
the market has encountered unbroken
support or resistance in the past.
For example, in chart below EURUSD has
established a resistance level at
approximately .9015. In other words,
EURUSD has risen up to .9015 repeatedly,
but has been unable to move above that
point:

The trading strategy would then be to sell

EURUSD the next time it gets close to .9015,
with a stop placed just above .9015, say at .
9025. This would have indeed been a good
trade as EURUSD proceeded to fall sharply,
without breaking the .9015 resistance.
Hence a substantial upside can be achieved
while only risking 10 or 15 pips (.0010 or .
0015 in EURUSD).
On GCI's integrated charting system (GCI
Multi-Currency Charts), the red support line
shown above can be drawn by clicking on
the "Trend" button at the top of the chart
window, and then drawing a line by clicking
the mouse once at the beginning of the line,
and again at the end of the line.