Under a fixed exchange rate system with a high degree of capital mobility, a decrease in foreign interest rates

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Under a fixed exchange rate system, the central bank must intervene in the foreign exchange market to maintain the fixed exchange rate. If foreign interest rates decrease, there will be a decrease in the demand for domestic currency, as domestic residents will find it more attractive to hold foreign assets. To offset this decrease in demand, the central bank must sell domestic currency and buy foreign currency, which will put downward pressure on the domestic currency. To prevent the domestic currency from depreciating, the central bank must raise domestic interest rates to make domestic assets more attractive.

Under a Fixed Exchange Rate System with a High Degree