The asset market theory of exchange rate determination suggests that the most important factor influencing the demand for domestic and foreign securities is:
A) Expected return on these assets relative to one another
B) Ability of these assets to easily be converted into cash
C) Riskiness of these assets relative to one another
D) Level of government restrictions on trade and investment flows

Question

Quizplus · Accepted Answer

According to the asset market theory of exchange rate determination, the demand for domestic and foreign securities is primarily driven by their expected returns relative to each other. If investors perceive greater potential for returns in the domestic market, they will demand more domestic securities and sell foreign securities, leading to an appreciation of the domestic currency. Conversely, if they expect greater returns from foreign securities, they will demand more foreign securities, leading to a depreciation of the domestic currency. Therefore, A) is the correct answer.

The Asset Market Theory of Exchange Rate Determination Suggests That