Question

Please discuss how the following variables in another country (e.g. France) are going to be affected after the interest rate decrease by the Federal Reserve in the U.S.?(You should use graphs!)

i.) Foreign Exchange Rate (e.g. euro/$)

ii) Real Interest Rate

iii) Money Demand Curve

Answer 1

Foreign Exchange rate: When France decreases its interest rate, there is a fall in foreign exchange rate. A higher value currency makes a country’s export cheaper and the export become expensive. Lower value currency creates expensive import and cheap export over the world. Due to low interest rate, there is low inflation and lowering value of currency.
Real Interest rate: Real interest rate is nominal interest rate minus inflation rate. When France reduces the nominal interest it will reduce the real interest rate and inflation rate.
Money demand curve: Money demand curve show the relation between quantity of money demanded and the interest rate. In precautionary money demand, the lowering interest rate will induce investment. When there is low interest rate, the money demand curve will shift to left. Money demand curve is downward sloping because, low interest rate create increasing demand for money.