Increase in Inflation rate vs Exchange rate ??

CFA Level I
#1

In Reading 21, Example 1 it says that an increase in the Australian inflation rate means that the real exchange rate AUD/HKD would be decreasing

But should the real exchange rate not be INcreasing??

#2

No; it’s decreasing.

Recall that

nominal currency = real currency × (1 + inflation)

real currency = nominal currency ÷ (1 + inflation)

So,

AUD/HKD[real] = AUD(real)/HKD(real)

= [AUD(nom) ÷ (1 + AUDinf)] / [HKD(nom) ÷ (1 + HKDinf)]

= AUD(nom)/HKD(nom) × (1 + HKDinf)/(1 + AUDinf)

Thus, if AUDinf increases, AUD/HKD[real] decreases.

#3

Thank you very much!

#4

Bitte.

#5

What Chapter or Which Reading number can I find the above in? I can’t find it:

#6

Reading 21, section 2. Volume 2, p. 491 (if you have the hard copy)