Chapter – 4
Exchange Rate Determination
Measuring Exchange Rate Movements
•An exchange rate measures the value of one currency in
units of another currency.
•When a currency declines in value, it is said to depreciate.
When it increases in value, it is said to appreciate.
•The percentage change (% ∆) in the value of a foreign
currency is computed as.
•A positive % ∆ represents appreciation
•A negative % ∆ represents depreciation.
∆ = St – St-1 × 100
St-1
Value of £
Quantity of £
D: Demand for £
$1.55
$1.50
$1.60
S: Supply of £
equilibrium
exchange rate
Exchange Rate Equilibrium
•An exchange rate represents the price of a currency, which
is determined by the demand for that currency relative to
the supply for that currency.
/$
S0
⇒↑ BD demand for USA
goods, and hence $.
S1
Factors that Influence Exchange Rates
•Relative Inflation Rates
BD inflation ↑
