Reference no: EM132243941

1. Suppose there are two countries that are otherwise the same (e.g. in regards to inflation and risk etc.) except that they have different interest rates. Country L1 has low interest rates and Country H1 has high interest rates.

(a) For Country H1, which will happen in foreign exchange markets, an increase in demand for the country's currency or an increase in supply of the country's currency?

(b) What happens to the strength of Country H1's currency?

(c) What happens to the supply of financial capital in Country H1?

(d) What happens to the interest rate in Country H1?

2. Suppose there are two countries that are otherwise the same (e.g. in regards to inflation and risk etc.) except that Country L2 is a lending country and Country B2 is a borrowing country.

(a) For Country L2, which will happen in foreign exchange markets, an increase in demand for the country's currency or an increase in supply of the country's currency?

(b) What happens to the strength of Country L2's currency?

(c) What happens to the trade balance for Country L2?