Question

Suppose that the nominal exchange rate between the US dollar and the Canadian dollar is 0.75 US dollars per Canadian dollar. If Canada's rate of inflation is 0 percent and the US rate is 10 percent, then the real exchange rate (real US dollars per real Canadian dollar) will
A. depreciate by about 9 percent.
B. appreciate by exactly 10 percent.
C. depreciate by exactly 10 percent.
D. appreciate by about 9 percent.

Answer 1

Answer:

option (c) depreciate by exactly 10 percent

Explanation:

Data provided in the question:

Canadian dollar = 0.75 US dollars per Canadian dollar

Canada's rate of inflation = 0 percent

US rate of inflation = 10 percent

Now,

The percentage change in real exchange rate

= percentage change in nominal exchange rate - (Domestic inflation - Foreign inflation)

= 0 - (10 percent - 0 percent )

= - 10 percent

Here,

the negative sign depicts that the exchange rate will depreciate

Hence,

the answer is option (c) depreciate by exactly 10 percent