The foreign exchange market

BIS Working Papers  |  No 1094  | 
27 April 2023



The global foreign exchange (FX) market, the largest financial market in the world by trading volume, has remained opaque as trading takes place over-the-counter (OTC). With the FX market under light regulatory oversight in most countries, the structure and operation of the market have been driven by commercial interests and the market participants' needs. We provide an overview of the evolution of the FX spot market's size and of its trading environment from the time of the inception of the first electronic brokers in the 1990s through 2022. Algorithmic trading and non-bank intermediation have now become prominent features of the FX market.


We discuss the FX spot market's structural evolution in the light of three key economic frictions: credit risk management, inventory risk management and asymmetric information. Along with advances in technology, these frictions have shaped the FX market structure over time. We propose a two-dimensional taxonomy of the complex FX execution environment, which highlights how price discovery tends to gravitate to the parts of the OTC market that most closely resemble an exchange. We also discuss topical issues including algorithmic trading, "flash events," the FX Global Code and settlement risk. In doing so, we draw on sources that include the BIS Triennial survey, regional FX Committee surveys, and proprietary data from the main electronic brokers. We conclude with suggested topics for future research.


Over the past two decades, global FX spot trading volume has roughly quadrupled, to over $2 trillion per day by 2022. Most of the growth and innovation in recent years has taken place in the dealer-customer trading, whereas the share of inter-dealer trading has gradually declined. At the same time, the distinction between the two market segments has become blurred over time, with a proliferation of trading venues, a growing variety of execution methods, and some non-bank actors emerging as liquidity providers alongside bank dealers. The main inter-dealer electronic brokers now account for a small fraction of global spot trading volume, yet they are still viewed as the main locus of price discovery for the entire market. The participation of non-banks as intermediaries has also contributed to a closer link between FX spot market activity and activity in currency futures markets.


This chapter discusses the structure and functioning of the spot foreign exchange (FX) market. The market structure, which has become far more complex over the past three decades, has mostly evolved endogenously as the global FX market is subject to notably less regulatory oversight than equity and bond markets in most countries. Major banks used to dominate liquidity provision, but they have found their role challenged by high frequency trading firms in an increasingly fragmented electronic market. The information structure of the market has also changed. As such, high-frequency cross-asset correlations, especially with the futures market, have become more important. The chapter also discusses the important role of the official sector in the FX market, and it highlights a few special topics such as flash events and the FX fixing scandal. We conclude with some suggestions for future research.

JEL classification: F31, G15

Keywords: financial markets, foreign exchange, market microstructure, dealer intermediation, electronic trading, algorithmic trading