Question

Investors from Germany, the United States, and the U.K. frequently invest in each other based on prevailing interest rates. If British interest rates increase, German investors are likely to buy ____ dollar-denominated securities, and the euro is likely to ____ relative to the dollar.

a.fewer; depreciate
b.fewer; appreciate
c.more; depreciate
d.more; appreciate

Answer 1

When British interest rates increase, German investors are likely to buy fewer dollar-denominated securities and the euro is expected to appreciate relative to the dollar, due to changes in investment attractiveness and resulting currency market dynamics.

Step-by-step explanation:

If British interest rates increase, German investors are likely to buy fewer dollar-denominated securities. This is because higher British interest rates make British assets more attractive, leading investors to prefer these over U.S. assets. Subsequently, the euro is likely to appreciate relative to the dollar. When U.S. assets become less desirable, as seen when U.S. interest rates are lower, there is a decrease in demand for dollars and an increase in supply of dollars in foreign currency markets, which typically results in the dollar depreciation compared to the euro. Applying this understanding to the scenario where British rates increase, we can infer that the euro would appreciate compared to the dollar due to similar investment dynamics.

Answer 2

Correct option is (a)

Step-by-step explanation:

As a country's interest rate rises, it's currency becomes attractive to foreign investors. As result, home currency appreciates against other currencies.

In this case, British interest rates have risen, so demand for Pound increases as foreign investors would want to invest in British rather than Germany or US. As such, Pound appreciates against Dollar.

As a result, German investors will buy fewer dollar denominated securities as they will invest in pound denominated securities. Euro is likely to depreciate against dollar as Pound appreciates against Dollar.