When Mexico suffered from capital flight in 1994, Mexico's real interest rate

Question

a.

rose and the peso depreciated.
b.

rose and the peso appreciated.
c.

fell and the peso depreciated.
d.

fell and the peso appreciated.

Answer 1

In 1994, Mexico faced a financial crisis characterized by capital flight, which typically leads to a depreciation of the local currency due to increased selling pressure. As investors pull their money out, the demand for the peso drops, leading to a depreciation.

In response to capital flight and a weakening currency, central banks often raise real interest rates to attract foreign capital and stabilize the currency. During Mexico's 1994 crisis, indeed, the real interest rates rose as the government attempted to regain investor confidence.

Given this context, the correct answer is:

a. rose and the peso depreciated.