The foreign exchange market is referred to as the FX, currency market, or as we will refer to it here, the Forex market. Basically, it’s a decentralized market trades currencies over the counter. The purpose of the Forex is to determine the relative values of various foreign currencies.
The Forex is divided by levels of access; the top level is large banks (JP Morgan, CitiBank, etc) all the way down to money transfer companies (Western Union, etc). The companies that use the exchange have to be legitimate, and the less money that goes through a particular company’s hands determines their ranking in this system. These companies then can exchange certain amounts of moneys.
Because the Forex is decentralized and over-the-counter (OTC), there is actually no “set” exchange rate. We can estimate it (usually the number used in the newspapers and such are averages or taken from a set bank or company), but there’s usually no set “exchange rate.”
The exchange rates are affected by two things: how much money is actually being traded, and expectations of the amount of money being traded. Now, a variety of factors can affect both of these, including inflation, gross domestic product (GDP) growth and fall, interest rates, and surpluses/deficits. Political issues (such as the ones being dealt with in Egypt) and market psychology (how consumers view their stock markets) can also affect the exchange rate significantly. As these things change, the exchange rates go up and down.
The “strength” of a certain form of currency is determined by their exchange rate with other foreign currencies. During the economic downfall in the US, the American dollar was not considered to be very strong, because the exchange rate with the Euro and other foreign currencies was lower than it had been recently.