In the short run, an important factor in exchange rate movements is the difference between interest rates in different countries. This difference is called the:
Answer & explanation
Correct answer: option 4
The correct answer is Option (4) → interest rate differential
The interest rate differential is the gap between interest rates in two countries. Big funds move to where interest is highest, so this gap moves exchange rates in the short run.
For example, if bonds pay 8 per cent in country A and 10 per cent in country B, the differential is 2 per cent.
NCERT (2026-27): “Interest Rates and the Exchange Rate In the short run, another factor that is important in determining exchange rate movements is the interest rate differential i.e. the difference between interest rates between countries. There are huge funds owned by banks, multinational corporations and wealthy individuals which move around the world in search of the highest interest rates. If we assume that government bonds in country A pay 8 per cent rate of interest whereas equally safe bonds in county B yield 10 per cent, the interest rate differential is 2 per cent. …” |