Question

A British-made automobile is priced at £20,000 (20,000 British pounds). A comparable U.S.-made car costs $27,200. One pound trades for $1.50 in the foreign exchange market. Find the real exchange rate from the perspective of the United States and from the perspective of Great Britain. Which country’s cars are more competitively priced?

Answer 1

Solution:-

1) The real exchange rate from the perspective of United States: 0.907

Working:

As the cost of the British automobile is £20,000 x $1.50/£ or $27,200.

Therefore, the price of the U.S. car relative to the British car is $27200/$30,000 = 0.907

It indicates that the U.S. car is cheaper.

2) The real exchange rate from the perspective of British is 1.102

Working:

The value of the U.S. car in pounds equals 27,200/1.50 = £18,133.

Now the price of the British car relative to the U.S. car equals £20,000/£17,333 = 1.102 (or equals 1/0.907).

3) Cars are competitively prices in the US

Explanation: British car relative to the U.S. car equals £20,000/£17,333 = 1.102 (or equals 1/0.907). Therefore it indicates that the British car is more expensive and the U.S. car is more competitively priced.