The country of Vezot has massive capital flows with the U.S. because it has no restrictions on the movement of investment funds into or out of the country. Vezot’s inflation rate just increased substantially, while the U.S. inflation rate remains unchanged. Vezot’s interest rate just increased substantially, while the U.S. interest rate remains unchanged. Vezot’s income level just increased substantially, which will increase consumption of products within its country. The U.S. income level remains unchanged. There is negligible international trade between Vezot and the U.S. Vezot can easily obtain all of its imported products from border countries instead of the U.S. The U.S. just imposed very large taxes on U.S. importers that import products from Vezot from today forward. Vezot does not impose restrictions on imports from the U.S. Vezot’s currency is freely floating. Based on the information above, do you think Vezot’s currency will appreciate, depreciate, or remain unchanged against the dollar? Briefly explain.
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