1. Inflation

Inflation is the rise in price level of an economy over a certain period of time. Inflation is said to have an inverse relation with the strength of the currency. The lesser the inflation, the stronger the currency. Increased inflation is caused because of increase in prices of goods, with no or relatively lower increase in the purchasing power, among many other reasons.

2. Interest Rates

While interest rates is considered as a factor of its own, it is highly correlated to inflation. Countries’ central banks use interest rates to control the inflation in a country. The higher the interest rates, the more it attracts foreign investors, which further bolsters its currency rates.

But if inflation also stays high for too long, the high interest rates can’t hold the currency. And it ultimately leads to currency devaluation.   

3. Current account deficit

What this simply means is that there is a deficit in the current account of the country or it is spending more money on foreign trade than it is earning. This is generally accompanied with borrowing capital from foreign entities to fill up the deficit.

The increased demand for foreign goods (or currency) reduces the exchange rate.

4. Public debt

Public debt again is correlated to inflation. Here’s how. Public debt is the borrowing of the government to fulfill projects or other related functions. The more the debt, higher the chance of inflation. Countries with large public deficits or debts are not as attractive to foreign investors. This is because the inflation results in a threat to the returns of foreign investors since the exchange rate weakens with increasing inflation.

5. Political stability and economic performance

This one is more intuitive. Political stability and economic performance is reviewed by investors before investing in a country. Naturally, the better these factors, the more attractive a country becomes in terms of foreign investing. These factors can either cause a gain or loss in confidence of foreign investors towards investments in a country.

6. Speculation

Traders also study the expected change of the strength of currencies before trading in it. The demand of a country’s currency increases if the value of it is expected to go up. This enables investors to make a profit in the future. Due to this speculation of an increase in value of the currency, the demand for it increases. This results in increasing the exchange rate as well.