Which of the following events will cause the smallest change in the real exchange rate (ε)?
A)a 6% drop in E and a 6% increase in the foreign price level (P*)
B)a 6% increase in the domestic price level (P)and a 6% reduction in P*
C)a 6% drop in E and a 6% reduction in P*
D)a 3% increase in E
E) a 2% increase in E and a 2% increase in P

Question

Quizplus · Accepted Answer

A 6% drop in E and a 6% reduction in P* will cause the smallest change in the real exchange rate (ε) because the percentage changes in E and P* are equal and opposite, so they will offset each other.

Which of the Following Events Will Cause the Smallest Change