With the help of a diagram, explain three factors that would cause a currency to appreciate in value.

1. Fixed exchange rate
2. Floating exchange rate
3. Managed exchange rate

The one that we will be looking at is Floating exchnage rate, this is a regime where the value of the currency is determined by the demand and supply for it so there is no government intervention to influence the value of it. A currency that uses a floating exchange rate is known as the floating currency. The figure below shows an example of  the japanese Yen and Indian Rupees :

When the value of a currency rises, it is known to have appreciated and when it drops, it is known as depreciated. The value of a currency can appreciate due to any of the reasons listed below :

1. Slow growth of income which causes imports to lag behind exports
2. An inflation rate that is lower then the trading partners
3. Domestic real interest rates are higher then the one abroad
4. A shift toward policies that attract a flow of capital

 When there is an appreciation of a currency, then there has to be the depreciation of the other currency. With the japanese Yen and Indian Rupees, in order to increase the appreciation of the Yen, people in india have to buy more japanese products, invest in japanese comapnies and save money in several japanese firms. This will cause the demand for the Japanese Yen to rise in the market. This can be seen in the diagram below :

The advantage of an economys currency to be in a floating exchange rate is that the exchenage rate does not have to be kept at a certain level. The interest rates are free to be employed as a domeytic monetary tools and can be used to demand management policies like controlling inflation. Also, the floating exchange rate will adjust itself to keep the account balanced. For exmaple if the demand for a currency is low because exports are low, then the supply of the currency would be high. The means that the market will adjust itself and the exchange rate will fall.