Why does Mr. Klein choose to pay
$3.30 per gallon to fill up his car, when
he could drive 10 miles to fill up for
$3.15 per gallon?
XE.com Short Quiz
1. Which currency is strongest against the others?
2. Which currency is the weakest?
3. If Klein wants to spend 6100 peso for a fabulous weekend in
Cabo San Lucas, how much money is that in dollars?
4. Draw the change the US $ if the Fed increases the discount
rate to 5%.
What happens to the US $ if?
• US firms increase direct
investment in a poor country such
• Loanable funds in US S or D?
• What happens to NCO?
• How does that effect the US $
exchange rate in the Forex
International Currency markets
• Flexible exchanges
• Based on S & D
• Fixed exchanges
• Set by central banks
• “pegged” to another currency
• Not too popular any more
Nominal vs. Real
• Nominal exchange rate
• The tradable rate of exchange
• For example 12 Pesos = 1 $, or $0.082 for 1 Peso
• But that’s not the real rate since fiat money’s value
based on purchasing power
• If I go to Mexico, will X really be the same price?
• So: Real Exchange rate is:
• Nominal X Domestic price / foreign price (in local
• Students going to dentist? Other examples?
In the long run though…..
• People adjust purchases and exchange rates
balance out so we get
• Cigarettes for a while in the 90s
• Purchasing power parity (PPP)
• Goods should have the same prices in different
countries after currency exchange