Suppose a report was released today that showed the Euro-Zone inflation rate is running above the European Central Bank's inflation rate target. This leads people to expect that the European Central Bank will enact contractionary policy in the near future. Everything else held constant,the release of this report would immediately cause the demand for U.S. assets to ________ and the U.S. dollar will ________.

Question

Quizplus · Accepted Answer

When people expect the European Central Bank to enact contractionary policy due to high inflation, they anticipate higher interest rates in the Euro-Zone, making Euro-Zone assets more attractive. This expectation would decrease the demand for U.S. assets as investors seek higher returns in the Euro-Zone, leading to a depreciation of the U.S. dollar. However, the immediate reaction to the anticipation of contractionary policy might lead to uncertainty and a flight to safety, often benefiting the U.S. dollar as a reserve currency. This can cause an initial increase in demand for U.S. assets and an appreciation of the U.S. dollar, reflecting a complex interplay of expectations and immediate market reactions.

Suppose a Report Was Released Today That Showed the Euro-Zone