Suppose a reduction in the domestic one-year interest rate expected to occur in two years . All else fixed, will the reduction in interest rate have which of the following effects in a flexible exchange rate regime?

A) The real exchange rate will decrease with no change in the nominal exchange rate.
B) The nominal exchange rate will decrease with no change in the real exchange rate.
C) Both the real and nominal exchange rate will decrease.
D) No change in either the nominal or real exchange rate.

ANSWER:

C