Question

INTEREST RATES 35 The citizens of Great Britain voted to exit from the European Union in 2016. Assuming the U.S. economy is at equilibrium, use the model of a loanable funds market to determine the net effect on United States real interest rates, nominal interest rates, US Dollar/EU real exchange rates (e), and US Dollar/EU nominal exchange rates, (E).

Answer 1

As Great Britain exited from European Union, the total currency of European Union will decrease everywhere.

Hence there will be a shortage of European Union currency in US too. Hence foreign currency exchange European will increase in US. Hence US dollar will become weak compared to EU currency.

Hence real exchange rate of US dollar will decrease. And nominal exchange rate follow the same because there is no price change as the US economy is in equilibrium.

Hence exports will increase of US as weak exchange rate of US means cheaper export from US.

Hence the real interest rate will increase in US.

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As US economy was in equilibrium before hence there was no inflation then the nominal interest rate will also have to increase in US.