Distinguish between the nominal exchange rate and real exchange rate

cbse-class-12

#1

Distinguish between the nominal exchange rate and real exchange rate. If you were to decide whether to buy domestic goods or foreign goods, which rate would be more relevant? Explain.


#2

Nominal exchange rate is the price of foreign currency in terms of domestic currency, without taking into account the changes in the general price level of the two countries. It is nominal because it expresses the exchange rate in money terms, i.e. 1$ = Rs 60. Real exchange rate, on . the other hand, is the ratio of foreign price level to domestic price level. To make it comparable, it is measured in the same currency.
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Real exchange rate would be more appropriate for buying domestic or foreign goods as it takes into account the changes in the general price levels of the two countries.