Business competition is improving every day around the world. All goods and services cannot be produced in a country. On the other hand, a country may be producing too much of a particular good and may be interested in selling the surplus to other countries. This brings about the need for different countries to involve themselves in international trade. However, countries use different currencies and some currencies must be exchanged into others so as to facilitate business transactions. It is because of this reason that this piece of work tries to analyze hard and soft currencies and how they are used in global financing operations.
A hard currency is a currency that is globally accepted. This simply means that a hard currency can be used to carry out business transactions in most countries throughout the world. It is a currency from a country that has a high degree of development in terms of industrialization. A hard currency remains stable for a long time in the foreign exchange market and therefore many people prefer working with hard currencies than other currencies (Gans, King, Stonecash & Mankiw, 2000). In addition, the value of a hard currency does not depreciate significantly within a short period and this is the reason why it is considered as a stable currency.
On the other hand, a currency that cannot be converted to all other currencies is known as a soft currency. The value of a soft currency keeps on fluctuating and it is therefore considered as unstable currency (Gans, King, Stonecash & Mankiw, 2000). Sometimes the value of a soft currency may rise against the values of other currencies and sometimes it may fall against the values of other currencies. It is because of this reason that a soft currency is not universally accepted as a medium of exchange. Soft currencies are usually currencies from countries that are not politically stable. The economies of such countries are also usually weak and thus soft currencies are sometimes referred to as weak currencies. It is not easy for many business individuals to predict the exchange rates for soft currencies and therefore many people avoid conducting business transactions using soft currencies (Holtfreter, 2004).
Any business firm that is involved in exportation and importation of goods must address the risks that may arise due to fluctuations in foreign exchange rates. For example, if a trader has a soft currency of an economically unstable nation, the currency must first be converted into major international currencies such as the British pound or the Euros in order to purchase goods from the world market. This can be very unfortunate if the value of the currency that the trader has is low because once it has been converted, the amount may be too small to purchase the required goods. However, sometimes the value of a soft currency may be high in the foreign exchange market and thus a trader having such a currency may have an advantage when converting the currency to hard currencies. This situation does not make traders confident to work with soft currencies since the values of soft currencies do not stay high for a long time in the world market. To avoid risks associated with fluctuations in the foreign exchange rates, traders prefer conducting their business transactions using hard currencies (Holtfreter, 2004).
International traders should demand that all payments made to them should be in hard currencies. This is one of the ways of managing risks in global financial operations. Some traders may however accept payments made in soft currencies when they anticipate the values of the currencies to rise in the foreign exchange market. This is referred to as speculations and traders cannot rely on it for business success (Gans, King, Stonecash & Mankiw, 2000).
Both soft and hard currencies are important in global financing operations. For example, some countries may put legal restrictions in hard currencies when they want to increase confidence in their local currencies. The governments of such countries may achieve this by pegging their local currencies against hard currencies. It must therefore force any person interested in buying goods from the countries with such restrictions to first convert hard currencies to the local currencies in order to conduct any business (Holtfreter, 2004). However, pegging a soft currency against hard currencies may result to problems when the government is forced by economic situations to break the pegging policy. This was witnessed in Argentina in the year 2001 when the local currency depreciated sharply against the world major currencies after the Argentinean government broke the pegging policy (Holtfreter, 2004).
Hard currency is also important because it is used to set standard prices for important goods such as petroleum products in the world market. It also helps business transactions to run smoothly throughout the world. Some countries have been forced by poor economic conditions to adopt a hard currency after abandoning their own local currencies (Gans, King, Stonecash & Mankiw, 2000). This situation was witnessed in Zimbabwe when the country abandoned its local currency in 2009 after a very high inflation rate and adopted U.S dollar as a legal tender.
Reference List
Gans, J., King, S., Stonecash, R. & Mankiw, N. (2000). Principles of Economics. Sydney: Harcourt Publishers.
Holtfreter, K. (2004). Fraud in US organizations: An examination of control mechanisms. Internal audit function in corporate governance: A synthesis of the extant internal Journal of Financial Crime 12 (1): 88-95.