Forex Trading Strategy: Central Banks

Central Banks





One such indicator of forex trading strategy, or more accurately a network of international indicators, exists in various countries’ Central Banks.





Central Banks are basically in charge of promoting and maintaining the stability of their country’s currency, reacting against economic events or natural events that impact their country’s economy.





The actions of a Central Bank are closely followed by active forex brokers and traders, as they are the core movers and shakers in any changes to a currency that might cause fluctuation, transactions and ultimately, financial gain or loss form forex trading. Central Banks are often in charge of issuing actual currency and managing inflation. They set policies that move their nation’s economy toward its goal.





Here are a few more specifics about the actual functions of Central Banks.





Issuing Actual Currency: Central Banks usually have the lone authority of managing a nation’s money, which means issuing actual bank notes into circulation.





Acting as the Nation’s Banker: Central Banks are commonly known as the "Banker to the State," meaning it conducts all transactions for the Government. This includes financial transactions as well as attempts to raise money for the Government by way of things like treasury bills or bonds. Treasury bills, (or T-Bills) are like bonds, notes sold at a discounted rate and allowed to mature to their full value over time while the government can earn interest with the initial purchase price.





Setting Interest Rates: Central Banks control various financial rates and policies, such as interest rates, cash reserve ratio (CRR) and the like. Varying these rates can instantly affect the money supply of a nation’s economy and serve as prime indicators to active forex brokers and traders. Tweaking interest rates and other key financial rates is used to manage inflation as well.





Managing Open Markets: This essentially means exchange rate stability—Central Banks buy and sell forex to avoid dramatic fluctuations in local currency. The largest Central Banks, (the FED, Bank of Japan, European Central Bank) aren’t involved in this as much since their currencies are for the most part very stable.





Other Central Bank Responsibilities





Central Banks are also in charge of managing the entire credit system of a country—think of them predominantly as the bank to all of a nation’s commercial banks. It refinances bank debt at current interest rates and can serve as a last-resort lending if a commercial bank wavers and risks closing.





FX Trading Strategy:





In terms of FX trading strategy, the actions of a Central Bank are key in determining the actual value of currencies. Because the Central Banks control money supply, each action can lend to the rise and fall of actual currency value.





In terms of basic FX trading strategy, a tight monetary policy can lead to higher interest rates which can, in turn, lead to greater investment in Government bonds and notes which can cause local currency value to rise.