Final answer:
Rising U.S. government deficits that lead to higher interest rates would increase demand and decrease supply for U.S. dollars in foreign exchange markets, resulting in an appreciation of the dollar against currencies like the euro.
Step-by-step explanation:
If the U.S. government deficit causes interest rates in the United States to rise relative to those in the European Union, this would impact the supply and demand for U.S. dollars in several ways. Higher interest rates would attract foreign investment, leading to an increase in demand for U.S dollars as investors exchange their currency to invest in U.S. interest-bearing assets. Consequently, the demand curve for U.S. dollars would shift to the right. Simultaneously, U.S. investors may find it more attractive to invest domestically rather than abroad, therefore the supply of U.S. dollars in foreign exchange markets could decrease, causing the supply curve to shift to the left.
As the demand for U.S. dollars increases and the supply decreases, the equilibrium exchange rate for the U.S. dollar would strengthen against the euro. This outcome would imply that it would take more euros to purchase a dollar, indicating that the dollar has appreciated in value relative to the euro.