A rise in the inflation rate in one nation relative to others will be associated with a fall in the first nation's exchange rate and with a rise of its interest rate relative to foreign interest rates. The two conditions combined result in the _________ Effect.

Question

Quizplus · Accepted Answer

The given scenario is an example of the International Fisher Effect, which states that the difference in inflation rates between two countries will be reflected in the exchange rate between their currencies, and in the interest rate differential between the two countries. This is because, in the long run, the impact of expected changes in the exchange rate due to inflation is offset by the interest rate differential. Therefore, a rise in inflation in one nation relative to others will result in a fall in the nation's exchange rate and a rise in its interest rate relative to foreign interest rates, ultimately leading to the International Fisher Effect.

A Rise in the Inflation Rate in One Nation Relative