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Why Does the Dollar Drop when the interest rate remains unchanged or decreases?

Q. The Bank of Canada held steady on interest rates maintaining the key lending rate at 4.25 per cent, what happened, among other things, was the drop in the loonie. Can you explain why?

A. Well to make a long answer short, the dollar fell less than it would have had the interest rate decreased. When the short term interest rate declines it sends signals to the market that the economy needs a boost, that any increases would actually have a negative impact on the markets. This in turn affects investor confidence, hence the exodus in investments of Canadian currency.

Another reason why is simple supple and demand. If interest rates go down or stay unchanged, less people will demand Canadian dollars with respect to other foreign currencies because isn’t worth as much. It is cheaper to buy, however, The value of investments just declined (or in this case remain unchanged b/c the interest rate was unchanged) and therefore less people are willing to invest in Canadian bonds, etc., and therefore demand less currency. Less demand and more supply means the price of our currency goes down.

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