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Could someone please answer this? If the interest rate in the US is 5% and in...

Could someone please answer this?

If the interest rate in the US is 5% and in Mexico it is 10%, where will capital inflow and outflow occur in both countries? Now, what will happen to both currencies? Also, how will this affect both of their GDP and net exports? Please make sure to explain all of your reasons to each of the questions.

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Answer #1

Capital inflows will occur in Mexico because it has higher interest rate than America Capita outflow will occur in America.

The BOP shows a gigantic surplus in Mexico.Foreigners buy Mexican assets,tending to cause the exchange rate to appreciate.Net exports increase.The central bank intervenes by trying to keep the exchange rate constant.It buys foreign money in exchange of domestic money.This intervention causes home money stock to increase.Therefote,there is exchange rate appreciation.

The opposite heppens in America.

Net exports fall,domestic money supply falls and there is exchange rate depreciation.

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