Suppose that Japan is the home country. If the Japanese inflation rate is 5 perc

Question

Suppose that Japan is the home country. If the Japanese inflation rate is 5 percent while the U.S. inflation rate is 10 percent, then Japanese yen will:

appreciate by 15 percent against the U.S. dollar.

depreciate by 15 percent against the U.S. dollar.

depreciate by 5 percent against the U.S. dollar.

appreciate by 5 percent against the U.S. dollar.

appreciate by 15 percent against the U.S. dollar.

depreciate by 15 percent against the U.S. dollar.

depreciate by 5 percent against the U.S. dollar.

appreciate by 5 percent against the U.S. dollar.

Explanation / Answer

The interest rate parity (IRP) theory states that between two countries,

Inflation rate differential = Exchange rate differential.

Japan's inflation - US Inflation = 5% - 10% = - 5%

Therefore, as per IRP, Yen will appreciate by 5% against the US Dollar.

Correct option (D)

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