interest rate

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Influence of Interest Rate in other Economics on Domestic Rate:

Influence of Interest Rate in other Economics on Domestic Rate Presented By-: Dhanashree Joshi Roll No-: 20

Meaning:

Meaning Expected change in value of foreign currency will be positive when the domestic interest rate (nominal)greater than the foreign interest rate (nominal). Change in the value of foreign currency will be negative when the domestic interest(nominal) is lower than the foreign interest rate(nominal). Foreign depreciates when the domestic interest rate is lower than the foreign interest rate.

Channels :

Channels Domestic residents switch from foreign to domestic bonds. This clearly increases the demand for domestic bonds. On other hand, the lower foreign interest rate also induces them to hold more of their own money and therefore reduces their non-monetary wealth, inducing them to wish to hold fewer of both domestic and foreign bond. The net effect on their demand for domestic bonds is therefore in principle, ambiguous.

Channels :

Channels When they are induced to hold more or their own money by lower interest rate on the foreign bond, they switch primarily out of domestic bonds or out of foreign bonds. Domestic and foreign bonds are relatively close substitutes, they would tend to switch primarily out of their own relatively substitution effect would dominate the portfolio scale effect.

Channels :

Channels Assumption that is referred to as the gross substitutes assumption. Gross substitutes assumption, then the demand for domestic bonds increases and the equilibrium value of the domestic interest rate falls.

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D iagram representation

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