What happens to foreign investment when interest rates increase in a specific country relative to others?

When interest rates increase in a specific country relative to others, it typically attracts foreign investment, particularly if inflation expectations do not rise concurrently. Higher interest rates offer higher returns on investments denominated in that country's currency, making those assets more attractive to foreign investors seeking better yields. If inflation remains stable or does not escalate, the real returns (nominal interest rates minus inflation) maintain their attractiveness, reinforcing the influx of foreign capital.

An environment of increasing interest rates can signal a strong economy or better monetary policies, which can further entice foreign investment. However, if inflation expectations do rise along with interest rates, the real returns could diminish, making investment less appealing. Thus, the stability of inflation expectations is crucial in determining the impact of rising interest rates on foreign investment.