Question

In the United States, a cup of hot chocolate costs $5. In a foreign country, the same hot chocolate costs 6.5 units of that country’s currency. If the exchange rate were 1.3 units of foreign currency per U.S. dollar, what is the real exchange rate?

Answer 1

Options :

a. 1/2 cup of that country's hot chocolate per cup of U.S. hot chocolate

b. 2 cups of that country's hot chocolate per cup of U.S. hot chocolate

c. 1 cup of that country's hot chocolate per cup of U.S. hot chocolate

d. d. None of the above is correct

Answer: One cup of that country's hot chocolate per cup of U.S hot chocolate

Explanation: The real exchange rate simply means the ratio of the price of domestic goods relative to the foreign price of such goods.

Mathematically,

Real exchange rate = [nominal exchange rate × (domestic price / foreign price)]