How is Base Currency vs Quote Currency Defined in Forex?

When it comes to the forex market, understanding the roles of base and quote currencies is essential. But why is the US dollar second in most major pairs, while it is listed first in pairs with the Japanese yen and Canadian dollar? And why does the euro always come first in its pairs, while the Japanese yen is always second? The explanation is straightforward.

Trading in the currency market is unique because when you open a position, you are speculating on the rise of one currency and/or the fall of another. In each currency pair, the value of one currency is quoted against the value of the other. The currencies are thus referred to by their position in the pair: the first currency is called the base currency, and the second is the quote currency. For instance, in the EURUSD pair, the euro is the base currency, while the US dollar is the quoted currency. This means that EURUSD represents the value of one euro expressed in US dollars.

 

How Are Currency Pairs Quoted?

Forex traders often take it for granted that currency pairs are traded in a specific format, but have you ever wondered why they are quoted this way? The answer lies in convention, and there isn’t a strict rule that dictates how currency pairs are quoted. What is clearly defined, however, are the abbreviations for the currencies, which follow the ISO 4217 standard set by the International Organization for Standardization (ISO).

Given that the USD is the most traded currency on the forex market, one might expect the US dollar to appear first in most currency pairs. However, the position of currencies in a pair isn’t determined by the liquidity or strength of a currency. In fact, the US dollar is typically listed as the base currency in pairs involving less-traded or exotic currencies, where its value tends to be higher.

 

The Clearly Defined Order

The general rule for arranging the ten most important currencies (those of the G10 countries) follows a specific order: EUR, GBP, AUD, NZD, USD, CAD, CHF, NOK, SEK, and JPY.

Take the GBPUSD pair as an example. The order of currencies here is influenced by both the currency's strength and historical tradition. The British pound, the world’s oldest still-used currency (dating back to 760), was pegged to gold until 1940, which explains its position.

Similarly, in pairs like AUDUSD and NZDUSD, both the Australian and New Zealand dollars have historically been closely linked to the British pound. While the US dollar is the stronger currency in these pairs, it was not always so—in the early days of forex trading in the 1970s, both the AUD and NZD were more valuable than the US dollar.

In the USDCHF pair, the Swiss franc has recently become the stronger currency, largely due to its popularity as a safe haven for traders. This shift has led to an appreciation of the franc since the early 2000s.

 

An Interesting Case: The EURGBP Pair

The EURGBP pair presents an interesting anomaly, as it makes the euro the base currency in all its currency pairs. Even though the euro has never been stronger than the British pound, the decision to list the euro first was made by the European Central Bank (ECB) when the euro was introduced in 1998. Initially, both EURGBP and GBPEUR were available, but over time, the EURGBP pair became the norm.

In some markets, however, financial institutions prefer quoting in a different order. For example, certain UK institutions still use the GBPEUR quote because the British pound is naturally their base currency. On the other hand, in Switzerland, banks tend to quote the CHF as the second currency, resulting in the JPYCHF rate, despite the general convention being CHFJPY.

 

Rates Accurate to a Tenth of a Pip

Until 2006, currency exchange rates in the forex spot market were quoted to four decimal places, with the fourth decimal representing one pip. Pairs with rates above 20 were quoted to three decimal places, and those above 80 (like pairs with the Japanese yen) were quoted to two decimal places.

In 2005, Barclays Capital introduced a change by adding an extra decimal place to several of the most-traded pairs. This allowed rates to be quoted in tenths of a pip, leading to more accurate pricing. Other financial institutions adopted this approach, creating a more competitive and dynamic market. Today, most pairs are quoted to five decimal places, while pairs involving the Japanese yen are quoted to three decimal places.