Question

Does a higher rate of return in a nation's economy, all other things being equal, affect the exchange rate of its currency? If so, how?

Short answer

The rate of return will surely affect the exchange rate of a currency.

Step-by-step solution

Condition for the exchange rate of the currency

All other things being equal, rate of return will surely affect the exchange rate of a currency in an economy.

The attraction of funds from foreign investors

High rate of return of a currency in an economy will make investors more interested in converting their currency to other currency, currency's demand will rise and exchange rate will also rise. Thus, the currency of an economy experiencing a high rate of return tends to have a strong exchange rate and attract more funds from foreign investors.

Diagrammatic representation

DGiven below diagram shows that, with a higher interest rate of currency, demand for currency rises, and the demand curve will shift to rightward direction from$D$to$D_1$whereas the supply curve will shift in leftward direction from$S$to$S_1$. The new equilibrium point is determined at$E\left\{1\right\}$At point, $E_1$, the high-interest rate is determined at $R_1$.

Diagram

Diagram given brlow