Suppose the pound devalues from $at the start of the year to $at the end of the year. Inflation during the year is 15% in England and 5% in the U.S. What is the real devaluation (-) or real revaluation (+) of the pound during the year?
A) - 12.38%
B) - 20.71%
C) + 2.39%
D) + 1.46%

Question

Quizplus · Accepted Answer

The real devaluation or revaluation is calculated by adjusting the nominal exchange rate change for the inflation differential between the two countries. The formula is: Real Exchange Rate Change = (1 + Nominal Exchange Rate Change) / (1 + Inflation Rate in Domestic Country) * (1 + Inflation Rate in Foreign Country) - 1. Given the inflation rates, the real devaluation is approximately -12.38%.

Suppose the Pound Devalues from $At the Start of the Year