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 must be affecting the exchange rate of a currency

Step-by-step solution

Step 1. Condition for the rate of return

All other things being constant, the rate of return must be affecting the exchange rate of a currency in an economy.

Step 2.  Attraction of funds                                                                                                                    

A 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 increase and the exchange rate will also increase. So, 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.

  Step 3. Diagrammatic  representation                                           

The diagram given below shows that, with a higher interest rate of currency, demand for currency increases, 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$E_1$. At a point $E_1$, the high-interest rate is determined at $R\_\left\{1\right\}$

Step 4. Diagram

The diagram is given below