Answer (A) is correct . In the short run, a central bank’s sale of the currency increases the supply and reduces the price of the currency. In the long run, given the current system of managed floating exchange rates, changes in rates should reflect changes in economic conditions. In other words, exchange rates should float. But central banks are expected to manage the float by buying and selling currencies to counteract the disruptive effects on rates of such temporary factors as speculation.
Answer (B) is incorrect because Buying domestic currency in the foreign exchange market would raise the world-wide value of the domestic currency.
Answer (C) is incorrect because Selling foreign currency would raise the world-wide value of the domestic currency with respect to that foreign currency.
Answer (D) is incorrect because A central bank decision to increase domestic interest rates would make the domestic currency attractive to foreign investors, and raise the value of the domestic currency.
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