If money is neutral, the nominal exchange rate must _____ when the domestic price level rises.
A)fall
B)rise
C)not change
D)none of the above

Question

Quizplus · Accepted Answer

According to the theory of Purchasing Power Parity (PPP), when the domestic price level rises, the currency becomes less valuable, and therefore, its exchange rate should fall to maintain the same purchasing power parity between two currencies. As money is assumed to be neutral in this case, the nominal exchange rate must adjust to reflect the changes in the price level. Therefore, the correct choice is A) fall.

If Money Is Neutral, the Nominal Exchange Rate Must _____