The increase in interest rates may attract foreign investmen

The increase in interest rates may attract foreign investment in debt securities, leading to an appreciation of the domestic currency relative to foreign currencies. An appreciation of the domestic currency increases the foreign currency prices of exports and can reduce demand for the country\'s export goods.

Solution

An increase in interest rates would attract foreign investment because of higher returns (interest rates), this investment would be made in local currency which would increase the demand for local currency while its supply remains the same in forex market. Thus, the currency would appreciate relative to other currencies. The export goods of the country would become expensive for foreigners because of this appreciation of local currency.