Question

Assume that you have a subsidiary in Australia. The subsidiary sells mobile homes to local consumers in Australia, who buy the homes using mostly borrowed funds from local banks. Your subsidiary purchases all of its materials from Hong Kong and pays Hong Kong dollar. The Hong Kong dollar is tied to the U.S. dollar. Your subsidiary borrowed funds from the U.S. parent, and must pay the parent $100,000 in interest each month. Australia has just raised its interest rate in order to boost the value of its currency (Australian dollar). The Australian dollar will ____________ in value as a result of the interest rate raise.

Answer 1

Answer: Appreciate

Explanation:

When a country increases interest rates, it will lead to an appreciation in currency. This is because there will be more demand for the currency of the country because people will want to take advantage of the higher interest rates and make a gain.

As the demand for the currency increases but the supply stays the same, the value of the currency will appreciate.

With Australia taking up their interest rates, their dollar will appreciate in value.