Suppose that the purchasing power parity estimate of the dollar/euro exchange rate is $1.30 per euro, and the current spot rate is $1.3 8 per euro. Comparing these two exchange rates from a long-run viewpoint you would ?
Correct answer: B. anticipate the dollar to appreciate against the euro
- A. anticipate the dollar to depreciate against the euro
- B. anticipate the dollar to appreciate against the euro
- C. anticipate the dollar's exchange rate against the euro to remain constant
- D. have no anticipation concerning future movements in the dollar/euro exchange rate
Explanation
The spot rate of $1.38 per euro is above the PPP rate of $1.30, so the euro is relatively overvalued and is expected to depreciate toward the PPP level. Equivalently, the dollar is expected to appreciate against the euro.
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