When a country's government budget deficit increases,
A)the real exchange rate of its currency and its net exports increase.
B)the real exchange rate of its currency and its net exports decrease.
C)the real exchange rate of its currency increases and its net exports decrease.
D)the real exchange rate of its currency decreases and its net exports increase.

Question

Quizplus · Accepted Answer

When a country's government budget deficit increases, it typically leads to an increase in interest rates as the government borrows more money, which in turn attracts more foreign investment. This increase in demand for the country's currency drives up the real exchange rate. However, this also makes its exports more expensive and less competitive, leading to a decrease in net exports. Therefore, the correct option is C, which states that the real exchange rate of its currency increases and its net exports decrease.

When a Country's Government Budget Deficit Increases