Final answer:
A stronger U.S. dollar can lead to a reduced real GDP as it makes U.S. exports more expensive and less competitive abroad, possibly resulting in lower export sales and production.
Step-by-step explanation:
When the exchange rate of the U.S. dollar increases, meaning a stronger dollar, it can reduce the real GDP of the United States. A stronger dollar makes U.S. exports more expensive to foreign buyers. This decrease in competitiveness can lead to reduced demand for U.S. goods abroad, causing U.S. firms to see a fall in their export profits. Consequently, companies may either cut back on their exportation or raise their prices, which could further decrease sales volumes. Lower export levels mean reduced production activities, thereby contributing to a potential decrease in the real GDP.
Conversely, a stronger dollar could make imports cheaper, potentially increasing the quantity of imports. While this could benefit U.S. consumers and companies that rely on imported goods, it could also put additional pressure on domestic producers who compete with those imported goods, which may negatively impact the domestic economy's production, and again, the real GDP. Overall, the net effect of a strong dollar is usually a negatively impacted real GDP due to lower net exports.
In summary, while a stronger dollar may suggest economic strength, it can pose challenges for export competitiveness, which may lead to a decrease in real GDP. These dynamics signal the interrelated nature of exchange rates and economic health, wherein a strong currency can both reflect and influence a country's economic performance.