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Exchange Rate Changes

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Early in September 1983, it took 245 Japanese yen to equal $1. More than 20 years later that exchange rate had fallen to 108 yen to $1. Assume the price of a Japanese-manufactured automobile was $8,000 in September 1983 and that its price changes were in direct relation to exchange rates.
a. Has the price, in dollars, of automobile increased or decreased during the 20-year period because of changes in the exchange rate?
b. What would the dollar price of the car be, assuming the car's price changes only with exchange rates?

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Early in September 1983, it took 245 Japanese yen to equal $1. More than 20 years later that exchange rate had fallen to 108 yen to $1. Assume the price of a Japanese-manufactured automobile was $8,000 in September 1983 and that its price changes were in direct relation ...

Solution Summary

The solution considers the effect of Yen-dollar exchange rate changes on the dollar price of a car.

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1. Regress the rate of exchange rate changes (percentage change in the exchange rate) on the inflation rate differential to estimate the intercept and the slope coefficient, and interpret the regression results. Interpreting the regression results means that you will have to test for statistical significance and explain how the results support or are inconsistent with PPP theory. Also, discuss the relation between the percentage change in the exchange rate and the inflation differential. For example, if there is a negative 1% inflation differential, what is the predicted percentage changes in the exchange rate?

Note: You will need to calculate both the inflation rate differential and the percentage change in the exchange rate (a.k.a. rate of exchange rate changes) from the data provided.

Data source: You may download the consumer price index data for the U.S. and Turkey from the following website: http://www.oecd.org, "hot file" (Excel format) . You may download the exchange rate data from the website: http://pacific.commerce.ubc.ca/xr/data.html.

Please see attached file for additional information regarding this question. Please provide supporting material to your answer such as excel calculation as well as any necessary graphical demonstration. Many thanks!

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