Exchange rates
Measuring the exchange rate
- the nominal exchange rate — the everyday market rate.
- the real exchange rate — adjusts for price differences (true competitiveness).
- the trade-weighted (effective) rate — an average against all trading partners, weighted by trade.
Practice
The real exchange rate differs from the nominal rate because it:
The real rate adjusts the nominal rate for price differences, showing true competitiveness.
Systems and moves
- floating (market sets it), fixed (central bank holds it), managed (mostly floats).
- floating: a rise = appreciation, a fall = depreciation.
- fixed: a deliberate rise = revaluation, a deliberate fall = devaluation.
- A weaker currency tends to raise exports and inflation; a stronger one does the opposite.
Practice
Under a fixed system, a deliberate fall in the currency's value is called a:
Fixed system: deliberate fall = devaluation, deliberate rise = revaluation; floating uses depreciation/appreciation.
Practice
A weaker currency tends to raise exports but also raise inflation.
Cheaper exports boost sales, but dearer imports push up inflation.
You've got it
Key idea
- nominal (market), real (price-adjusted), trade-weighted (average vs partners)
- floating: appreciation/depreciation; fixed: revaluation/devaluation
- a weaker currency raises exports + inflation; a stronger one lowers both