Consider a scenario where the Bank of England views the UK economy as overheating and is attempting to slow it down using monetary policy. Which of the following statements is correct regarding the effects of an interest rate rise?

A. It leads to higher bond prices, which result in higher demand for UK bonds.
B. It leads to higher demand for GBP, which results in an appreciation of GBP.
C. It leads to the UK exports becoming cheaper and imports becoming more expensive.
D. It has opposing effects on the UK's aggregate demand (AD) by discouraging investment, which lowers AD, and cheaper imports, which boosts AD.

The correct statement regarding the effects of an interest rate rise is: B. It leads to higher demand for GBP, which results in an appreciation of GBP.

When the Bank of England raises interest rates, it becomes more expensive to borrow money and more profitable to save, which can lead to a reduction in spending and investment.

As a result, there will be a higher demand for GBP since investors seek higher returns on their investments.

This increased demand for GBP leads to an appreciation of the currency, making UK exports more expensive and imports cheaper.

Consequently, the net export component of aggregate demand is likely to decrease, which helps to slow down the overheating economy.

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