The real effective exchange rate (REER) is an index that measures the relative value of a currency against a basket of other currencies. The basket of currencies is typically made up of the currencies of the country's major trading partners. The REER takes into account the effects of inflation and is used to measure a country's competitiveness.
The REER is calculated using the following equation:
REER = (Currency Value in Home Country / Currency Value in Foreign Country) x (Foreign Country's Price Level / Home Country's Price Level)
where:
Currency Value in Home Country = Price of foreign currency in home country
Currency Value in Foreign Country = Price of home currency in foreign country
Foreign Country's Price Level = Price of a basket of goods and services in the foreign country
Home Country's Price Level = Price of a basket of goods and services in the home country
For example, if the currency value in the United States is $1.00 and the currency value in Japan is ¥120.00, then the REER would be:
REER = ($1.00 / ¥120.00) x (Japan's Price Level / United States' Price Level)
If the REER is greater than 1, then the currency is considered to be overvalued. If the REER is less than 1, then the currency is considered to be undervalued.
What is the equation for real exchange rate?
The real exchange rate is the relative price of two currencies, adjusted for inflation. In other words, it is the purchasing power of one currency relative to another. The real exchange rate can be calculated using the following formula:
REER = (S/P)*(e/p)
where:
S = nominal exchange rate (i.e. the market exchange rate)
P = domestic price level
e = foreign price level
p = purchasing power parity (PPP)
The real exchange rate is important for macroeconomic analysis because it is a measure of a country's competitiveness. A country with a high real exchange rate is said to have a "strong" currency, while a country with a low real exchange rate is said to have a "weak" currency.
What is REER and NEER?
The REER (Real Effective Exchange Rate) is an index that measures the relative value of a currency in terms of its purchasing power. The REER takes into account not only the exchange rate between two currencies, but also the relative prices of goods and services in each country. The REER is used as a measure of a currency's competitiveness.
The NEER (Nominal Effective Exchange Rate) is an index that measures the relative value of a currency in terms of its purchasing power. The NEER takes into account the exchange rate between two currencies, but does not take into account the relative prices of goods and services in each country. The NEER is used as a measure of a currency's purchasing power.
How do you calculate REER and NEER? To calculate the real effective exchange rate (REER), you need to take the nominal effective exchange rate (NEER) and adjust it for inflation. The formula for REER is:
REER = NEER / (CPI of home country / CPI of foreign country)
To calculate the nominal effective exchange rate (NEER), you need to take a weighted average of a country's exchange rates against its major trading partners. The weights are based on the relative importance of the trading partner, as measured by the trade volume. The formula for NEER is:
NEER = Σ (Exchange rate of home country against trading partner x Trade volume with trading partner) / Σ (Trade volume with trading partner)
What is meant by nominal effective exchange rate? The nominal effective exchange rate (NEER) is the weighted average of a country's currency against a basket of foreign currencies, typically used by central banks as a measure of the country's currency strength. The weights are derived from the trade flows of the country's exports and imports. The NEER can be viewed as a measure of a country's overall competitiveness in international trade.
What is the real exchange rate defined as? Real exchange rate (RER) is defined as the purchasing power of a currency relative to another at current exchange rates and prices. It is the ratio of the number of units of a given currency required to purchase a unit of another currency at current exchange rates. For example, the real exchange rate between US dollars and Euros would be the number of US dollars required to purchase one Euro multiplied by the price of a Euro in US dollars. If the real exchange rate is greater than 1, then the currency is undervalued (i.e. US dollars are relatively cheaper than Euros).