Final answer:
A U.S. bank with loans and deposits in Britain would benefit from the pound's depreciation against the dollar. Investors engage in portfolio investment to profit from anticipated exchange rate changes, where such strategies can have uncertain outcomes due to market volatility.
Step-by-step explanation:
A U.S. bank that has made £12 million worth of loans and £10 million worth of deposits in Britain would benefit from a drop in the value of the British pound against the dollar because the depreciation of the pound means the bank will pay back its loans in a weaker currency while its dollar-denominated assets retain their value. This strategy relates to expectations about how exchange rates will shift.
For example, if an investor believes the pound, currently worth $1.50, will decrease to $1.40, they could convert £20,000 into $30,000. If after a month the pound actually depreciates, they would be able to convert the $30,000 back into more pounds than they initially started with, making a profit. This activity is a form of portfolio investment with an aim to gain from exchange rate movements, a process which is inherently speculative with no guaranteed outcomes.
Expecting a depreciation in a currency like the pound would naturally lead to an increase in the supply of pounds and a decrease in demand for it, causing its value to fall relative to the dollar. In the context of the U.S. bank, such an event would be favorable to its financial position in terms of its British operations.