How Do Interest Rates Affect Exchange Rates?

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Interest rates influence exchange rates because they directly affect the supply and demand of a nation’s currency. Fluctuating interest rates affect currency values in a directly proportionate manner. Higher interest rates provide lenders a higher return relative to other nations; higher returns attract foreign capital, which increases demand and causes the exchange rate to rise. The opposite is true for decreasing interest rates, which proportionately decreases exchange rates.

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