Overview
Questions:
1. Explain how the nominal exchange rate and the real exchange rate differ.
2. Assuming all other things equal, what would happen to the real exchange rate under each of the
following circumstances? Explain your answer.
a. The U.S. dollar nominally (i.e. Nominal Exchange Rate=# of foreign currency/ 1 U.S. dollar) depreciates
against foreign currencies.
b. U.S. domestic prices rise faster than prices in the rest of the global economy.
3. Suppose the price of a “BigMac” sandwich is $3.41 in the U.S. Using the Law of One Price, given the
information in the following table, find the “predicted exchange rates” for the British Pound, the Euro,
the Yen, and the Peso