Question

6. Assume that the current dollar-Euro exchange rate (Ese) i equal to 1, the real exchange rate (qua/tur) = 1.26, the price level equals 2 in the U.S. and 2.5 in Europe. Assume that relative PPP holds. a. If inflation is 5% in the u.s. but 28 in Europe, what will be the price levels in the U.S. and Europe a year from now? b. What will be the nominal exchange rate (Ese) a year from now? c. What will the real exchange rate be a year from now?

Answer 1

rath @ to calculate the price level of one year from - now than: Puti =P 1+) Iwhere Pt - Cuvert, price . level one awer mi --- future prich Price level in v.s will be itt level Ato - Inflation. Poti P, +,) P = 2 (1+0:05) 2. (1005) m it to = 2:10 E fecture price-level of us, Price level in Uok, will be : - Pit = p; (177) - Pa = 2.547 0:02). P 2 = 2.5 (1002) future price level of O.K. - P22 55.1 k m So, price level in v.s. and Uok a year from now will be 2.1 and 06r 2.55 respectwely.

It foreign L Nominal exchange of mist hear Can-infl forreste A IT con enfy. rate = Current nomiral x - page rath ancharge = 1 x /1+ 0.02) (770.05) = X / 1•027 17.05) 0097. Real of exchange rate next year - Price Rull in ū170k Current real x 11 a exchange rate Lit Pricn level in U.S. /

Real Recharge rate from a year now = 1.26 x/2.5/17 0.02) 211 +0.05) 31-26x12.551 = 1026X7214 Real excharge - 1.535 T rate of mount par