If a country with floating exchange rates uses an expansionary monetary policy, the domestic interest rate _____, demand for the domestic currency _____, supply of the domestic currency _____, and the effect on the exchange rate is _____.

Question

Quizplus · Accepted Answer

An expansionary monetary policy will lead to a decrease in the domestic interest rate as it increases the money supply, making it cheaper for individuals to borrow money. This decrease in domestic interest rates will lead to a decrease in demand for the domestic currency as investors will seek higher returns in other currencies. This will result in an increase in the supply of the domestic currency as individuals sell off their holdings, increasing the supply. As a result, the exchange rate will decrease as there will be a greater supply of the domestic currency and less demand for it.

If a Country with Floating Exchange Rates Uses an Expansionary