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Exchange Rate and Purchasing Power Parity

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by

Ms. Cahill

on 23 April 2014

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Transcript of Exchange Rate and Purchasing Power Parity

Exchange Rate and Purchasing Power Parity
Introduction
Find your currency "match" with your other classmates!
Appreciation vs Depreciation
Appreciation-dollars buys more foreign currency






Depreciation-dollar buys less foreign currency





Real Exchange Rate
Nominal Exchange Rate
rate at which a person can trade the currency of one country for the currency of another
Ex: 80 yen per US dollar
Ex: On June 20th, I exchanged $100 for 65 pounds when I went to London. I was able to buy 65 chocolates.

Yesterday, I went to the bank and exchanged $100 for 90 pounds in London. I was able to buy 90 chocolates.
Ex: On August 13th, I exchanged $60 for 20 pesos when I went to Mexico. I was able to buy 35 flowers.

Today, I exchanged $60 for......You tell me! :)
rate at which a person can trade the goods and services of one country for the goods and services of another.
Nominal exchange rate x Domestic Price
Foreign Price
Foreign Currency
Domestic Currency
Overall economy
Real exchange rate= (nominal exchange rate * Price Index for US basket) divided by price index for foreign basket
Purchasing Power Parity
A unit of any given currency should be able to buy the same quantity of goods in all countries
**Determine exchange rates in the long run**
Implications: Nominal exchange rate between the currencies of two countries depends on the price levels of those countries.
1=units of foreign currency * price of a basket of goods in the United States divided by the price of a basket of goods in Japan
Implication: Nominal exchange rates change when price levels change
Full transcript