Suppose the current exchange rate for the Polish zloty is Z 2.92. The expected e

Question

Suppose the current exchange rate for the Polish zloty is Z 2.92. The expected exchange rate in three years is Z 3.00. What is the difference in the annual inflation rates for the United States and Poland over this period? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Suppose the current exchange rate for the Polish zloty is Z 2.92. The expected exchange rate in three years is Z 3.00. What is the difference in the annual inflation rates for the United States and Poland over this period? (Do not round intermediate calculations. Enter your answer as a percent rounded to 2 decimal places, e.g., 32.16.)

Explanation / Answer

Answer: Using the relative purchasing power parity equation:

Ft = S0 × [1 + (hFC – hUS)]t

We find:

Z 3.00 =Z 2.92 [1 + (hFC – hUS)]3    

hFC – hUS = (Z 3.00/Z 2.92)1/3 – 1

hFC – hUS = .00905

Inflation in Poland is expected to exceed that in the U.S. by 0.00905% over this period.

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