Question

Explain how the demand and supply of a currency affect the exchange rate of that currency.

Answer 1

Given fixed demand, when supply of a currency increases, at the original exchange rate there is surplus of currency. Hence, exchange rate falls i.e. currency depreciates.
On the other hand, when supply fo currency decreases, the currency appreciates.

Given fixed supply, when demand of currency increases, at the original exchange rate there is shortage of currency. Hence, exchange rate increases i.e. currency appreciates
On the other hand, when demand of currency decreases, the currency depreciates.