Question

Suppose that the real interest rate in Britain increases relative to the U.S. real interest rate. What will happen to the equilibrium dollar price of the pound, and why? Does the dollar appreciate or depreciate in relation to the pound?

Short answer

The equilibrium dollar price of the pound falls and the dollar depreciates.

Step-by-step solution

Given Information

Very much like the basic hypothesis of interest and supply, the interest for cash bears a backwards relationship with its cost (concerning the homegrown money of the nation), and its stock displays an immediate relationship with its cost (regarding the homegrown money). The place of collaboration of the interest and supply bends yields the harmony amount and cost of the unfamiliar money in the unfamiliar trade.

Explanation

The unexpected spray in the interest for pounds expands it's worth opposite dollars in the US. In the reference figure, this unexpected expansion in the interest for pounds results in a rightward shift in the interest for the cash from $D_1\text{to}{D}_2$.

On the occasion, the pound becomes costly to the dollar or the dollar loses its worth concerning pounds.

$\text{At}{E}_1\mathrm{\$}1=\pounds 0.67\text{and at}{E}_2=\mathrm{\$}1=\pounds 0.57\text{.}$

Hence, the equilibrium dollar price of the pound falls and the dollar depreciates.