How is an exchange rate defined?

An exchange rate is defined as the price of one currency relative to another, which reflects the value at which one currency can be exchanged for another. This is fundamental in international trade and finance as it influences how much of one currency is needed to purchase another currency. Exchange rates can fluctuate based on various economic factors, including interest rates, inflation, and economic stability, which means they are crucial for transactions that involve different currencies.

In contrast, the total value of currency in a country is related to its money supply, reflecting not just exchange rates but broader economic conditions. The interest rate set by central banks pertains to the cost of borrowing money and does not encapsulate the comparative value of currencies. Finally, the amount of currency in circulation refers to the physical or digital money available in the economy but does not address how one currency can be exchanged for another. Thus, the correct understanding of an exchange rate is specifically about the relative price of currencies.