Given a current spot rate of 8.10 Norwegian krone per U.S. dollar, expected inflation rates of 6% in Norway and 3% per annum in the U.S., use the formula for relative purchasing power parity to estimate the one-year spot rate of krone per dollar.

Question

Quizplus · Accepted Answer

The relative purchasing power parity (PPP) formula is S1 = S0 * (1 + i domestic) / (1 + i foreign), where S1 is the future spot rate, S0 is the current spot rate, i domestic is the inflation rate in the domestic country (Norway), and i foreign is the inflation rate in the foreign country (U.S.). Plugging in the given values: S1 = 8.10 * (1 + 0.06) / (1 + 0.03) = 8.10 * 1.06 / 1.03 ≈ 8.34 krone per dollar.

Given a Current Spot Rate of 8