Under sticky prices
A) an interest rate rise is associated with lower expected deflation and a long-run currency appreciation, so the currency appreciates immediately.
B) an interest rate rise is associated with higher expected inflation and a long-run currency appreciation, so the currency appreciates immediately.
C) an interest rate rise is associated with lower expected inflation and a long-run currency depreciation, so the currency appreciates immediately.
D) an interest rate rise is associated with lower expected inflation and a long-run currency depreciation, so the currency depreciates immediately.
E) an interest rate rise is associated with lower expected inflation and a long-run currency appreciation, so the currency appreciates immediately.

Question

Quizplus · Accepted Answer

Under sticky prices, an interest rate rise is associated with lower expected inflation and a long-run currency appreciation, so the currency appreciates immediately. This is because higher interest rates make holding the domestic currency more attractive, leading to an increase in demand and appreciation in the short term. Additionally, lower inflation expectations improve the attractiveness of the domestic currency, further contributing to the short-term appreciation.

Under Sticky Prices