In January 2001, the Canadian target for the overnight interest rate was 5.75%, falling to 2.5% in November 2004. During the same period, the marginal lending rate at the European Central Bank fell from 5.75% to 3%.

a. Considering the change in interest rates over the period and using the loanable funds model, would you have expected funds to flow from Canada to Europe or from Europe to Canada over this period?

b. The accompanying diagram shows the exchange rate between the euro and the Canadian dollar from January 1, 2001, through September 2008. Is the movement of the exchange rate over the period January 2001 to November 2004 consistent with the movement in funds predicted in part a?

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Exchange rate (euros per U.s. dollar) €1.4 1.2 1.0 0.8 0.6 0.4 0.2 2001 2002 Data from: Federal Reserve Bank of St. Louis. 2008 Year 2003 2004 2005 2006 2007