What Are Appreciation and Depreciation?
When you use the term appreciation or depreciation, make sure you’re referring to currencies that are traded in foreign exchange markets with no government interventions. A country may unilaterally peg its currency for various reasons. In the absence of such government interventions, the exchange rate or the relative price of two currencies is determined mainly in foreign exchange markets through the buying and selling of currencies by market participants.
If both currencies are traded in international foreign exchange markets, you can use appreciation or depreciation to describe the changes in the exchange rate.
|Date||Exchange Rate||Percent Change||Terminology (Refers to the Dollar)|
Notes: FRED, St. Louis Federal Reserve Bank. Available at http://research.stlouisfed.org/fred2/series/EXUSEU/downloaddata?cid=95.
All monthly rates imply the exchange rate on the first of the month.
The table shows that the dollar–euro exchange rate increased in February and August 2012 . Compared to the previous period, the changes in both months imply that more dollars were needed to buy one euro. Therefore, the fourth column refers to these months as depreciation in the dollar. In February and August 2012, there was a 2.54 and 1.04 percent depreciation in the dollar from their respective previous periods.
Because the example exchange rate is the dollar–euro rate, depreciation in the dollar means appreciation in the euro. You can invert the exchange dollar–euro rates and express them as euro–dollar rates. You can see that, in February and August 2012, the euro appreciated.
The following equations show that, from January to February 2012, fewer euros were needed to buy a dollar, which indicates the appreciation of the euro:
All other observation points (March, April, May, June, and July) indicate a negative percent change in the exchange rate, meaning that fewer dollars were needed to buy one euro. Therefore, the table refers to these changes as appreciation of the dollar against the euro.
Check out the graph and apply the terminology for changes in the exchange rates. It shows changes in the monthly dollar–euro exchange rate since the introduction of the euro in 1999. Note that the dollar appreciates following the euro’s introduction until 2001, and then the dollar depreciates until early 2008.
Note the change in the nominal dollar–euro exchange rate, which indicates only the number of dollars necessary to buy one euro. The following figure, on the other hand, shows the nominal effective exchange rates (NEER) for the euro and the dollar, which compare currencies with those of their respective trade partners.
The figure shows an increase in the NEER for the dollar until 2001. This movement indicates an appreciation of the dollar compared to the currencies of major trade partners of the U.S. Then the NEER declines until 2008, indicating a depreciation of the dollar. After a slight appreciation until late 2009, the NEER for the dollar indicates depreciation again.
The figure also shows the NEER for the euro. Compared to the currencies of the Euro-zone’s major trade partners, the euro depreciates following the introduction of the new currency in 1999. But between 2001 and 2009, the euro appreciates compared to the currencies of the Euro-zone’s major trade partners.