Interest rates are giant money magnets. They attract money from all across the globe. This can help the value of a currency to appreciate.
For example, let’s say you moved to a new town and need to choose a new bank to deposit your money in. There are only two banks in town. Both are on the corner of Main Street and 1st Avenue, directly across from each other.
They also happen to be equidistant from your home, have helpful staff, and offer comparable services. They are both great banks and differ only in one aspect: interest rates.
• Main Bank offers 3.5 percent interest on your deposits.
• 1st Bank offers 4.25 percent interest on your deposits.
All else being equal, most people would choose the bank that pays them the most money for depositing their savings into the bank. This is especially true for large companies, hedge funds, and even countries, each with billions of dollars of cash on hand. Is the interest rate differential of 0.75 percent (4.25% - 3.5%) a big deal? If you are talking about billions of dollars, yes! It’s a huge deal. Well, if you consider millions of dollar of extra profit a big deal, that is.
On an international scale, things are basically the same. Central banks pay money for deposits. Some economies want to attract money and raise their interest rates to compete for your investment, much like a local bank may.
Other central banks would like to discourage investment into their economies and could lower interest rates. Lower return ...