Question

Suppose the price of gold is initially 300 U.S. dollars per ounce in New York and 450 Canadian dollars per ounce in Toronto, Canada. If the law of one price holds for gold, the nominal exchange rate is ______ Canadian dollars per U.S. dollar. If Canada experiences inflation, such that the price of gold rises to 510 Canadian dollars per ounce, but the U.S. does not experience any inflation, the nominal exchange rate would be ______ Canadian dollars per U.S. dollar.

Answer 1

The nominal exchange rate would initially be 1.5 Canadian dollars per U.S. dollar based on the price of gold. If Canada experiences inflation and the price rises, causing the U.S. price to remain stable, the new nominal exchange rate would be 1.7 Canadian dollars per U.S. dollar.

Step-by-step explanation:

If the price of gold is initially $300 U.S. dollars per ounce in New York and $450 Canadian dollars per ounce in Toronto, and if the law of one price holds, which assumes no transportation costs and no differential taxes on goods between markets, the nominal exchange rate should reflect equal pricing for gold in both currencies. This would mean that for every US dollar, you would need 450/300 = 1.5 Canadian dollars to buy the same ounce of gold, establishing the nominal exchange rate as 1.5 Canadian dollars per U.S. dollar.

If Canada experiences inflation and the price of gold rises to $510 Canadian dollars while the U.S. price remains at $300, the new nominal exchange rate would become 510/300 = 1.7 Canadian dollars per U.S. dollar. The exchange rate adjusts to reflect changes in purchasing power of each currency.

Answer 2

1.5 and 1.7

Step-by-step explanation:

Suppose the price of gold is initially 300 U.S. dollars per ounce in New York and 450 Canadian dollars per ounce in Toronto, Canada. If the law of one price holds for gold, the nominal exchange rate is 1.5 Canadian dollars per U.S. dollar.

The law of one price expects an equation of value in different countries, hence the value of a $US = 450 / 300 = 1.5 Canadian dollars

If Canada experiences inflation, such that the price of gold rises to 510 Canadian dollars per ounce, but the U.S. does not experience any inflation, the nominal exchange rate would be 1.7 Canadian dollars per U.S. dollar.

The law of one price expects an equation of value in different countries, hence the value of a $US = 510 / 300 = 1.7 Canadian dollars