⚖️ Depreciation: When a Currency Loses Its Shine
🌍 1. Floating Exchange Rates: The Never-Stop Tug‑of‑War
Imagine two playgrounds: the US and the Eurozone. Their currencies, the dollar and the euro, are like popular trading cards. In a floating exchange rate system, the price of one card in terms of the other is decided by kids who want to trade — no teacher fixes the price. If many kids suddenly want euros to buy German gummy bears, the euro becomes more valuable; the dollar depreciates. It’s all about demand and supply.
Depreciation is not the same as “devaluation”. Devaluation happens in a fixed system, like when a principal announces “from tomorrow one card equals two stickers”. Depreciation creeps in silently, trade by trade. For elementary learners: 🍎 yesterday’s apple = $1, today $1.10 because the dollar buys less.
📈 2. Why Does Depreciation Happen? The Demand & Supply See‑Saw
Currencies are traded 24/7. Their price (the exchange rate) moves like a see-saw. Two major forces push the see-saw down (depreciation):
- 📉 Lower demand: If foreign investors sell US bonds and buy Japanese bonds, they need yen. They sell dollars → less demand for dollars → dollar depreciates against yen.
- 📊 Higher supply: When Americans travel abroad or import French cheese, they supply dollars to buy euros. More dollars in the market = lower price of dollar (depreciation).
🧾 3. Effects: Winners & Losers (A Tale of Two Factories)
When a currency depreciates, not everyone is unhappy. Think of Maple Toys (Canada) and Sun Electronics (USA). If the Canadian dollar depreciates against the US dollar:
- 🏭 EXPORTERS Maple Toys’ wooden trains become cheaper for Americans — sales skyrocket.
- 📦 IMPORTERS Sun Electronics buys Canadian minerals; now they need more US dollars to pay — costs rise.
- ✈️ TOURISTS Americans flock to Banff because their dollar is strong; Canadians find Florida hotels expensive.
| Sector | Impact of Depreciation | Real‑world Hint |
|---|---|---|
| Exports | ✅ Boosts | Japanese cars become cheaper abroad when ¥ depreciates |
| Imports | ⚠️ Cost rises | Indian oil import bill increases if rupee falls |
| Inflation | 📈 Pushes up | Imported chocolate, phones get pricier |
| Tourism | Inbound ↑ / Outbound ↓ | UK sees more visitors when pound weak |
🏦 4. Case Study: The Yen’s Slide (2022–2024)
Between 2022 and 2024, the Japanese yen depreciated sharply against the US dollar — from about $ 115 $ ¥/$ to over $ 150 $ ¥/$. Why? The US raised interest rates, making dollar assets attractive. Investors sold yen to buy dollars. Japan kept ultra‑low rates. For a high‑school student: imagine a lemonade stand (Japan) selling cups for $ 1 $ , another stand (US) pays $ 1.20 $ interest. Everyone moves to the US stand → yen gets less demand → depreciates. Japanese exporters (Toyota) celebrated; families paying for imported wheat frowned.
🧮 5. Math in Motion: The Depreciation Formula
Economists measure the size of depreciation with percentage change. If the exchange rate (domestic per foreign) moves from $ E_{old} $ to $ E_{new} $ :
If $ E_{old} = 1.10 $ €/$ and $ E_{new} = 1.20 $ €/$, the dollar depreciated by about $ 9.1\% $ . Wait, more euros per dollar means dollar is stronger? Careful: This formula uses direct quote (foreign currency per domestic). If $ E $ increases, each dollar buys more foreign money → appreciation. So to measure depreciation we often invert or use indirect quote. Middle school trick: if your currency buys less foreign stuff, it depreciated. Stick to that.
🛒 6. Everyday Science: Your Pocket Money & The Chocolate Bar
Meet Emma, a 6th grader in Canada. She loves Swiss chocolate. A bar costs $ 2 $ CHF. When $ 1 $ CAD = $ 1 $ CHF, the bar costs $ 2 $ CAD. If the Canadian dollar depreciates to $ 0.8 $ CHF per CAD, Emma now needs $ 2.50 $ CAD for the same bar. “My allowance didn’t rise — chocolate is now a treat for special days.” That’s depreciation at the candy shelf.
💡 7. How Central Banks & Governments Respond
Even in a floating system, authorities sometimes lean against the wind. If depreciation is too fast, a central bank may raise interest rates (attract foreign capital → more demand for currency). Or they might verbally intervene — “we are watching the market”. In 2022, Japan sold dollars and bought yen to slow depreciation. But in a pure float, the market has the final word.
🏭 8. Deep Dive: J‑Curve Effect — Patience Pays
Right after depreciation, the trade balance often worsens first (imports cost more, export volumes haven’t adjusted). Then, as factories sign new contracts, exports rise. The graph looks like a J. For advanced high‑schoolers: this is why policymakers don’t panic immediately.
❓ 9. Important Questions Students Ask
Not at all! It’s like a discount for foreign buyers. Germany and Japan, with strong export industries, sometimes welcome a bit of depreciation. The pain is for consumers who buy imports and for firms that rely on foreign parts.
Because other countries retaliate! If one currency depreciates, its trading partners complain. Also, rapid depreciation causes capital flight — investors run away, and inflation spikes. It’s a tool, not a free lunch.
Yes, if it’s sudden and huge. Example: 1997 Asian crisis. Countries owed debt in US dollars; when their currencies plunged, the debt became impossible to pay. This is “original sin” — borrowing in foreign currency.
🧾 10. Conclusion: Depreciation — A Powerful, Double‑Edged Current
📚 Footnote & Abbreviations
[1] CPI — Consumer Price Index, a measure of inflation. Not directly depreciation, but often correlated.
[2] BOP — Balance of Payments, the record of all transactions between residents of a country and the rest of the world.
[3] ¥ — Yen, Japanese currency.
[4] CHF — Swiss Franc, from Latin “Confoederatio Helvetica”.
[5] Floating exchange rate — currency value determined by private market, not government peg.
[6] Depreciation vs. Devaluation — Depreciation = market driven; Devaluation = official downward peg adjustment.