Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail
Investing Answers Building and Protecting Your Wealth through Education Publisher of The Next Banks That Could Fail

Key Currency

What it is:

A key currency is a currency used to set the exchange rate in an international transaction.

How it works (Example):

Let's say Country A has a tiny economy and an unstable government. As a result, the value of its currency is volatile. Company XYZ, which does business in Country A, wants to buy supplies from Company ABC, which is in Country B. Country B also has an unstable economy and an unstable currency.

Company ABC does not want to be paid in Country A's currency, so it proposes doing the deal with a key currency: the U.S. dollar. To do the transaction, Company A converts its money into dollars and pays in dollars. Company B receives the dollars and converts them back into its home currency. Alternatively, the companies might just keep bank accounts that are denominated in dollars.

The central bank of countries A or B may even fix their currencies' exchange rates to the U.S. dollar so that other potential trading partners are more inclined to trade with them.

Why it Matters:

Key currencies help companies do business with less risk so their transactions won't be marred by sudden or extreme changes in currency values. Key currencies are also regarded as major global currencies. They usually include the U.S. dollar, the British pound, the euro, the yen and the Canadian dollar.