Assume that the price level in Japan is 120, the price level in the U.S. is 145, and the price level in Mexico is 110. Also assume that the current nominal exchange rates are 115 yen per dollar and 4 pesos per dollar. Calculate the real exchange rates between each pair of countries.
What will be an ideal response?
We will use the equation x = X×P / PF. For the number of Japanese goods per U.S. good, the real exchange rate = 115 yen/dollar × 145 dollars/US good / 120 yen/Japanese good = 139 Japanese goods per U.S. good. For the number of Mexican goods per U.S. good, the real exchange rate = 4 pesos/dollar × 145 dollars/US good / 110 pesos/Mexican good = 5.3 Mexican goods per U.S. good. For the number of Japanese goods per Mexican good, the real exchange rate = 139 Japanese goods per U.S. good / 5.3 Mexican goods per U.S. good = 26 Japanese goods per Mexican goods.
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