 # Impact of nominal vs real interest rate movement on currency

what is the impact of nominal interest movements on demand/supply/value of a currency? for real rates it’s positive correlation (if real rate up - currency appreciates) - but what about nominal rate? thanks

I think you are getting into uncovered interest rate parity. With high nominal interest rates, in the long term the currency should depreciate. This is because the nominal rate has the built in expectation of high(er) inflation.

I agree yet one of the Schweser book1 questions (exam 2 - Q 115) seems to indicate the opposite. what do you think?

It’s correct, but this question is getting to the point that the quantity (supply/demand) will be the same, but the exchange rate will decrease (I think). C says the exchange rate will be the same, and if you agree with my above statement, you know this can’t be true.

ok - but according to schweser the correct answer is d) and the explanation says that the net effect is an appretiation of the currency (not a increase of the exchange rate). so the conclusion (based on this question) would be highier nominal rate = appretiation of the currency which doesn’t convince me

You got me then. I’ll wait for someone else to see if they can explain what Schweser says.

Redrum - check out the graph on page 51 book 2

I can’t see how you can make a conclusion from this. The nominal rate has two components - real rate & inflation. Two cases: 1) If real rate goes up & inflation = 0, then ccy should appreciate 2) If real rate = 0 & inflation goes up, then ccy should depreciate

Lisa Marie - this graph explains the equilibrium quantities which is what the original question was TK - this makes sense now - the nominal rate increase could be caused by real interest rate increase in which case the currency would appeciate (assuming no change in inflation) thanks both of you