Question

Compare and contrast the real effective exchange rate index and the nominal effective change rate index.

Answer 1

Real effective exchange rate index	Nominal effective change rate index
1. It is an adjusted weighted average rate with reference to inflation of a country's currency relative to an index or basket of other major currencies.	1. It is an unadjusted weighted average rate at which one country's currency exchanges for a basket of multiple foreign currencies.
2. It indicates about how much the goods and services in the domestic country can be exchanged for the goods and services in other country.	2. It is an indicator of a country's international competitiveness in terms of the foreign exchange only.
3. It is calculated on the basis of relative prices of the goods & services in different countries.	3. It is simply calculated on the basis of various currencies of different countries.
4. It considers differences between the purchasing power of the two currencies. So it reflects changes in the purchasing power too.	4. It does not consider differences between the purchasing power of the two currencies. So it does not reflect changes in the purchasing power.
5. It is more complicated in compare to nominal effective change rate index because effect of real purchasing power also considered.	5. It is quite simple in compare to real effective change rate index because effect of real purchasing power is not considered.
6. It helps in knowing increasing or decreasing trends in net exports and net imports.	6. It does not helps in knowing increasing or decreasing trends in net exports and net imports. So it is not as worthy as real effective exchange rate index.