If the risk of buying U.S.assets rises because it is discovered that lending institutions had not carefully evaluated borrowers prior to lending them funds,then
A)net capital outflow and the real exchange rate will rise.
B)net capital outflow will rise and the real exchange rate will fall.
C)net capital outflow will fall and the real exchange rate will rise.
D)net capital outflow and the exchange rate will fall.

Question

Quizplus · Accepted Answer

If the risk of buying U.S. assets rises due to the discovery of careless lending practices, investors will demand a higher return to compensate for the increased risk. This will lead to a rise in interest rates and a consequent increase in net capital outflow as investors move their funds to countries with less risk. The increase in net capital outflow will cause the value of the dollar to fall relative to other currencies, leading to a fall in the real exchange rate.

If the Risk of Buying U