Foreign Exchange Rate

Under the managed floating exchange rate system, the exchange rate is primarily market-driven, but the Central Bank intervenes to stabilize it within a specified range.

The Balance of Payments (BOP) is a systematic record of all economic transactions between the residents of a country and the rest of the world in a given time period. The BOP is divided mainly into two accounts: the current account and the capital account.
Explanation of Assertion (A): The current account records all transactions related to trade in goods and services, income, and current transfers. When an Indian shipping company provides services to foreign companies, it earns income from services exported. This transaction is recorded as an invisible export in the current account because it involves export of services.
Hence, Assertion (A) is true.
Explanation of Reason (R): The current account only records income and expenditure flows. It does not deal with transactions that involve a change in the ownership of assets or liabilities — these are recorded in the capital and financial accounts. Since service trade does not result in any asset or liability creation, Reason (R) is also true and correctly explains Assertion (A).
Thus, both statements are correct and Reason is the correct explanation of the Assertion.

Analysis of Statement 1: Statement 1 is false. According to the law of demand, there exists an inverse relationship between the price of foreign exchange and its demand. That is, as the price (or exchange rate) of foreign currency increases, its demand generally falls, assuming other factors remain constant. For example, if the US Dollar becomes more expensive in terms of Indian Rupees, Indian consumers and importers will demand less of it.
Analysis of Statement 2: Statement 2 is true. The foreign exchange rate reflects a country’s relative purchasing power in international markets. A stronger domestic currency (lower exchange rate per foreign unit) implies greater purchasing power abroad, while a weaker domestic currency means lower purchasing power. Therefore, the exchange rate serves as a signal of how much goods and services a nation can afford to buy from other countries.