5. Currency Exchange Rate

♤ The price of one currency in terms of the other is called exchange rate. It could be defined as the amount of domestic currency required to buy one unit of foreign currency.

Real Exchange Rate = ep1/p0

where

p0 is price level in home country and

p1 is price level abroad

e is the rupee price of foreign exchange (nominal exchange rate)

♤ Usually it is defined as the price of foreign currency in terms of domestic currency. This is called the bilateral nominal exchange rate.