300 hours Mock Exam

One of the reasons aggregate demand curve is downward sloping is because a higher price level means that the real exchange rate:

(A) depreciates, making domestic goods cheaper in other countries and imports less competitive, resulting in a higher level of net exports.

<b>(B) appreciates, making domestic goods more expensive in other countries and imports more competitive, resulting in a lower level of net exports. </b>

(C) appreciates, making the country’s exports and imports less competitive and leading to lower net exports.

The correct answer is B. Can someone please explain why? How does a higher price level (increase in inflation) lead to an appreciation of the currency? Shouldn’t it depreciate since the purchasing power of the currency declines?