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A-Level Economics · Currency appreciation (hot money) diagram question

What is the cost of the appreciation for UK EXPORTERS, and where does the chain end up?

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The answer

Export prices in foreign currency rise, so foreigners buy fewer UK exports; X−M falls, AD shifts left, growth is lost and the deficit widens. Interest rates up → hot money in → pound appreciates → exports dearer, imports cheaper → trade deficit → X−M falls → AD shifts left. Then a second leftward shift from the negative multiplier. Run the whole chain and label every shift: rates up → hot money inflow → demand for the pound up → appreciation → exports more expensive abroad and imports cheaper → trade deficit → (X−M) falls → AD1 shifts to AD2. Exports are an injection, so losing them compounds: firms receive less, pay households less, households spend less — the negative multiplier gives you AD3. Two macro objectives damaged at once: growth and the current account.

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This is one of 6 questions on the currency appreciation (hot money) diagram — every corner lettered, every wrong answer diagnosed.

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