Imagine the real exchange rate is 1/2 gallon of Canadian gasoline per gallon of U.S.gasoline,a gallon of U.S.gasoline costs $2.50 U.S.,and a gallon of Canadian gas costs $6 Canadian.What is the nominal exchange rate?

Question

Quizplus · Accepted Answer

The real exchange rate is the ratio of prices between two countries, in this case, the price of gasoline in Canada relative to the price of gasoline in the United States. The real exchange rate is 1/2 gallon of Canadian gasoline per gallon of U.S. gasoline, which means that Canadian gasoline is twice as expensive as U.S. gasoline. To find the nominal exchange rate, we need to convert the price of Canadian gasoline into U.S. dollars. Since one U.S. gallon costs $2.50 U.S. and we need to buy two Canadian gallons to get the same amount of gasoline, the cost of one gallon of Canadian gasoline in U.S. dollars is:

2 x $6 Canadian / (1/2 x 1 U.S. gallon) = $24 U.S.

Therefore, the nominal exchange rate is:

$24 Canadian per U.S. dollar = 1/24 U.S. dollars per Canadian dollar = 1.20 Canadian dollars per U.S. dollar.

Imagine the Real Exchange Rate Is 1/2 Gallon of Canadian