Hey,

Could you please help me with my understanding of the relationship between Inflation, Real interest rates, and Purchasing power.

According to CFAI p. 474:

“the real exchange rate that an individual faces is (…) a decreasing function of the domestic price level”

According to CFAI p. 475:

“the higher the price (real exchange rate), the lower your relative purchasing power”

So according to this:

Domestic inflation (higher prices) leads to a lower real exchange rate, leading to a higher purchasing power. However, this is - at least from my understanding - not right, because increasing inflation leads to decreasing purchasing power.

Could someone explain the relationship between these three factors and where my understanding is wrong?

Thanks in advance.