Suppose interest rates fall sharply in Canada but are unchanged in Great Britain.Other things unchanged, under a system of flexible exchange rates we can expect the demand for pounds in Canada to:
A)decrease, the supply of pounds to increase, and the dollar to appreciate relative to the pound.
B)increase, the supply of pounds to increase, and the dollar may either appreciate or depreciate relative to the pound.
C)increase, the supply of pounds to decrease, and the dollar to depreciate relative to the pound.
D)decrease, the supply of pounds to increase, and the dollar to depreciate relative to the pound.

Question

Quizplus · Accepted Answer

When interest rates fall in Canada, the demand for Canadian dollars decreases as investors seek higher interest rates. This would result in a decrease in the demand for pounds in Canada, causing the supply of pounds to increase. As a result, the value of the pound would appreciate relative to the dollar, causing the dollar to depreciate relative to the pound. Therefore, the best choice is C.

Suppose Interest Rates Fall Sharply in Canada but Are Unchanged