Given a current spot rate of 8.10 Norwegian krone per U.S. dollar, expected inflation rates of 3% in Norway and 6% 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

Relative purchasing power parity (PPP) formula:

Expected exchange rate = (current exchange rate) x [(1+ home country inflation rate) ÷ (1+ foreign country inflation rate)]

Expected exchange rate = 8.10 x [(1 + 0.03) ÷ (1 + 0.06)] = 7.87 krone per dollar. Therefore, the best answer is A.

Given a Current Spot Rate of 8