If you have ever traveled in a foreign country, you have probably had to exchange your U.S. Dollars for a foreign currency. How much foreign currency your Dollars will buy depends on the value of the Dollar at that time. You can check currency conversion rates to find what quantity of a foreign currency is currently equal to one Dollar. However, you should not expect the currency conversion rates to represent exactly what you will receive in a currency exchange. Businesses that exchange currency make money on these transactions by building a fee into their exchange rates. The way these businesses charge you can make it difficult to detect how much that currency exchange is actually costing you. This article will show how to calculate the true cost of currency exchange. For illustration purposes, let's evaluate conversions between the U.S. Dollar and the Mexican Peso.
The currency conversion rate changes daily, but let's say 1 Dollar currently equals 12.5 Pesos. You have Dollars and want to buy Pesos, so you go to a currency exchange business. They sell you 12 Pesos per 1 Dollar. One Dollar is actually worth 12.5 Pesos, but for each Dollar you convert, the currency exchange business keeps 0.5 Pesos and only gives you 12 Pesos. The 0.5 Pesos per Dollar that they keep is the exchange fee they are charging you. You can calculate the exchange cost in Dollars by reversing the conversion rate. One Dollar divided by 12.5 Pesos equals 0.08 Dollars per Peso. You are paying an exchange fee of 0.04 Dollars for each Dollar you convert to Pesos.
You now have Pesos and want to buy back your Dollars at the currency exchange business. Get ready to pay another exchange fee. They sell you 1 Dollar per 13 Pesos. One dollar is actually worth 12.5 Pesos, but for each Dollar you buy, the currency exchange business charges you 13 Pesos and keeps the extra 0.5 Pesos as their exchange fee. Based on the reversed conversion rate of 0.08 Dollars per Peso, you are paying an exchange fee of 0.04 Dollars for each Dollar you buy. Since you only received 12 Pesos for each Dollar you sold and had to pay 13 Pesos for each Dollar you bought, the double conversion cost you 1 Peso, or 0.08 Dollars, per Dollar converted.
Paying currency exchange fees can be difficult to accept because we know exactly how much currency is worth, and psychologically, we do not like to pay more for things than they are worth. However, we should recognize that currency exchange businesses are trying to earn a profit just like any other business. They have to charge exchange fees to compensate for the services they provide, but this does not mean you should just accept any fee they try to charge. Competition can exist among currency exchange businesses, so you should shop around for the best exchange rate and negotiate the best deal you can.
