If equilibrium is present in the foreign exchange market and a nation is experiencing a trade deficit,
A) the nation must be experiencing a net capital inflow.
B) the nation must be experiencing a net capital outflow.
C) the nation's inflation rate must increase.
D) the nation's interest rate must increase.

Question

Quizplus · Accepted Answer

If equilibrium is present in the foreign exchange market, that means the demand for a nation's currency is equal to the supply of its currency. If the country is experiencing a trade deficit, that means it is importing more goods and services than it is exporting. This creates a higher demand for foreign currencies and a lower demand for the nation's currency. In order to purchase these foreign currencies, there must be a net capital inflow to the country. This is because individuals and businesses from foreign countries are investing in the nation in order to buy its currency to purchase the goods and services it is importing. Therefore, choice A is the best answer.

If Equilibrium Is Present in the Foreign Exchange Market and a Nation