Foreign Exchange markets can be studied keeping into view the period for which transactions are carried out. If the transaction or operation is of daily nature, it is called current market or spot market.
On the other hand, if operation relates to future transaction it is called forward market. In a forward market delivery takes place in future.
1. Sport Market:
In a spot market rate of foreign exchange is known as spot rate of foreign exchange. This rate is useful for current transactions.
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For understanding the mechanism of spot-rate determination, we should know the strength of the domestic currency with respect to all the countries with which country has trade relations.
Number of rates can be there depending upon the fact as to whether strength of home currency has been estimated on constant prices or current prices. Current prices take into view changes in prices. Different rates are given below;
(i) NEER: Nominal Effective Exchange Rate is the measure of average relative strength of a given currency with respect to other currencies without eliminating the effect of price change. If effect of price changes is eliminated from NEER, it is called EER (Effective Exchange Rate).
(ii) REER: Real Effective Exchange Rate is an effective exchange rate based on real exchange rates instead of nominal rates.
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(iii) RER: Real Exchange Rate is the exchange rate which is based on constant prices. This rate excludes the effect of price changes.
2. Forward Market:
In a forward market for foreign exchange, transactions which take place at a future dates are covered. In a forward market there are parties which demand or supply a given currency at some future point of time. Forward transactions also known as future contacts take place due to two reasons. Firstly, to minimize risk of loss due to adverse change in exchange rate and secondly to make profit. First is called hedging and second is called speculation.