In this article, I will go over the basic economic principles of foreign exchange trading with USD/CAD. This is an introduction to economics for those of you who have never taken an economics course, but it uses foreign exchange currency trading with USD/CAD to illustrate economic principles so you get a grasp of it in a tangible and practical context. Just like all my other foreign exchange currency trading articles, I like to use everyday examples of principles as well as real foreign exchange trading examples so that readers can get a grasp of the concept in terms they understand first. If you can understand how economics impacts what you do daily, you'll have a much better grasp of how it works in the foreign exchange currency trading market as well. For example, to explain competition, I might use an example of how Starbucks competes with your favorite local coffee shop to illustrate that economic principle, and then I'll relate it to doing foreign exchange currency trading with USD/CAD in particular. In this way, I'll try to make foreign exchange currency trading accessible to everyone because I strongly believe that anyone can understand foreign exchange currency trading if it can be explained in everyday terms. You understand intuitively.

Here is a blog that tracks the news and movements of the USD/CAD forex currency trading market.  Forex USD/CAD Blog.

If you've taken an economics course or you have a basic understanding of foreign exchange trading, forex markets, the USD/CAD market or economics, you will already understand what will be in this article. This article is for those who want to get into foreign exchange currency trading but have no clue as to how it works or the basic economic principles that guide it. If you want a more in depth overview of the USD/CAD forex market I've written another article called Forex Currency Trading Basics for USD/CAD. Although "Forex Currency Trading Basics for USD/CAD" is also an introductory article on forex currency trading in USD/CAD, it assumes you understand basic economic principles that you will find in this article.

If you're new to foreign exchange currency trading and you're just starting to learn what it's all about, you may feel overwhelmed and feel like you have to start from scratch. The great news is that you already have a basic understanding of how the foreign exchange currency trading market works, you just don't know it yet! The same economic principles that govern your everyday life is also the same economic principles that govern the foreign exchange currency trading market! You are further along than you realize!

You already understand intuitively how economic principles work in everyday life, even if you can't verbalize it. You know where to get the prices on what in your city. You already know that if you buy in bulk, even though you pay more up front, in the long run it'll be a better bargain. You decide to go to Starbucks and not Dunkin Donuts for a reason, and it's an economic reason.

If we can understand foreign exchange currency trading basics in everyday terms, we'll get a much better grasp of how it works.

In order to move forward without losing anyone, let me define and explain some terms and acronyms that we'll be using in this article and in the foreign exchange currency trading industry as a whole.

Forex - Forex is derived from the words foreign exchange. It's just a nickname for foreign exchange currency trading. Other words like currency exchange, foreign currency trading, currency trading, forex currency exchange trading, forex trading is all used in the same manner and interchangeable.

USD - US Dollar.

CAD - Canadian Dollar.

The Loonie - the loonie is an affection term for the Canadian dollar. The smallest bill in Canadian money is the $5 bill. The $1 Canadian dollar is a coin with a picture of a bird called the common loon on it. That's why they call it the loonie. You will often hear the CAD referred to as the loonie in the foreign exchange currency trading industry. Hence, the word Canadian dollar, CAD and loonie are interchangeable.

USD/CAD - This is the USD and CAD currency trading pair, which means it's the exchanging of USD for CAD. Let me explain it the hard way and then explain it the easy way. The first currency in a currency pair is what we call the base pair. The base pair is always 1. So, basically, the value of the USD/CAD is how much CAD I get or "buy" with 1 USD. Let's say you have $1 USD in your pocket and you walk into Canada. You approach a foreign exchange currency trader and want to exchange the $1 US dollar (USD) for Canadian dollars (CAD). They tell you the exchange rate for the USD/CAD pair is 1.05. That means you can get 1.05 CAD for 1 USD. You agree and hand the foreign exchange currency trader your $1 US dollar bill and the currency trader hands you a loonie ($1 Canadian dollar) and a Canadian nickel.

PIP - The PIP stands for "percentage in point" and foreign exchange currency traders use it to refer to changes in the currency exchange rate.  The PIP is a very, very small unit of measuring currencies because of how much trading goes on in the foreign exchange currency trading market and because of leverage, which we'll explain later.  PIP is basically the fourth decimal point out of an exchange rate.  For example, currently the USD/CAD is at 1.0816.  If the USD/CAD changes to 1.0820, as pro foreign exchange currency traders, we would say it went up 4 pips or 4 points.

One of the fundamental principles of economics, the foreign exchange currency trading market and everyday life is the principle of supply and demand. To begin let me define some terms so we can understand the words we use for this principle.

Forex Currency Trading Economics Term #1 - Supply

Supply refers obviously to the supply of goods and services there are in a market. For example, in your home, you have a supply of goods, let's say ears of corn. If you walk into your local grocery store you will also have a supply of corn that is more than your supply at home. There is also a certain amount of supply of corn in your city, your country, the world and so on. The supply is limited. There isn't an infinite amount of supply of corn. We call this principle scarcity.

In the foreign exchange currency trading market there is also a limited and scarce supply of currencies. For example, there is a definite amount of US dollars in the foreign exchange currency trading market. Why is this important? If it was unlimited, the USD would have no value and the more of it in the system, the less valuable it gets. We'll explore this more when we talk about inflation later on.

Foreign Exchange Currency Trading Economics Term #2 - Demand

Then on the other side we have what we call demand. This is basically the principle of us wanting, needing and getting certain things. People use this term all the time, like "the demand for firby's are skyrocketing!", which basically means a lot of people want it.

In the foreign exchange currency trading market, it has to do with how much people want certain currencies. For example, when the world economy was spiraling down, there was a high demand for the USD. Many people were ditching other currencies they already owned for a safer one like the USD so the demand went up for the USD. Others knew that the demand would go up because of this and bought the USD just because they knew the demand would go up.

How the Supply and Demand of the Foreign Exchange Currency Trading Market Works

Like we've already said, there is usually a limited supply of a good or service and then a specific amount of demand for that good or service. The mixture of the supply and demand is the foundation of how economies, markets, and specifically the foreign exchange currency trading market works and it's how goods and services are priced or valued.

Generally, here's how supply and demand work together. Supply and demand work together to set a price that will cause the amount demanded to become equal to the amount of supply there is.

Let's use corn as an example of how supply and demand work.  I'll also use the graph to the right to illustrate if you're a more visual person.

The Y axis (vertical axis) is the price level and the X axis (horizontal axis) is the quantity.  As the price of corn decreases, the quantity of demand will go up.  Also, as the price of the corn decreases, the supply of corn will also decrease.  Think of it this way, if you went to the grocery store and they suddenly dropped the price of corn to $.05 per ear of corn, there would be a rush of people wanting to buy cheap corn.  So the demand of corn goes up, and because there is a rush to buy it, the quantity of supply in the grocery store goes down. 

The ideal price, economically speaking, is the point at which the supply and demand curve meet.  At this price, the quantity of supply and quantity of demand meet to satisfy the market.  For example, if the price is too low, there will not be enough corn to meet the demand.  If the price is too high, demand will be too low and there will be too much corn in supply.

Let's say it a different way.  If the grocery store has 10,000 ears of corn and they set the price too low, there will be a rush for the corn and there won't be enough for everyone who is willing to buy it at that price.  If the price is too high, their might be a few people who are wiling to buy it at $5 a ear of corn, but not enough.  Then there will be left over corn and it will all rot.

To understand this in terms of foreign exchange currency trading basics, there is a limited supply of USD.  If the price is too low, too many people who want to buy it will be left without supply.  If it's too high, there will be an oversupply that people who own it can't sell it.  This of course will never happen because the USD floats based on the principle of supply and demand.  So how it works out in the real life of foreign exchange currency trading basics is, if demand goes up, then the price goes up as well. If there are more people willing to pay a higher price of the currency and the supply stays the same, the price will go up.

It's similar on the supply side as well.  One example of how supply works out in foreign exchange currency trading basics is, if the US government decides to print money like it has recently, it floods the US market with USD increasing supply.  It then makes the price of the USD go down.