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Sir
If the exchange rate is 2 pounds per dollar, a relative increase in dollar interest rates will cause the dollar to appreciate against the pound right ?
Becausewhenever
interest rate rises
Inflation goes down and currency appreciates andWhen Interest rate falls inflation rises up and currency depreciates …
That is one factor that can affect exchange rates.
However the theory for the exam is all explained in my free lectures.
When forecasting future exchange rates use purchasing power parity (the currency will depreciate in the country with the higher inflation rate).
Interest rate parity is used to determine forward exchange rates.
In theory inflation rates and interest rates increase and decrease together. (A country with higher inflation will increase interest rates in order to try and combat the inflation).
Again, this is all explained in my free lectures.
Okay thank you sir,
That meansIf the exchange rate is 2 pounds per dollar, a relative increase in dollar interest rates will cause the dollar to depreciate against the pound right
In theory yes, although indirectly because it is assumed that the increase in interest rates is due to the increase in inflation.
Again, interest rate parity is used to determine forward rates (both in the exam and in real life). We do not use it in the exam to forecast future spot rates.
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