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AP® Macroeconomics · Unit 6 · Topic 6.2

Exchange Rates: Revision Notes (Macroeconomics 6.2)

One-page recap of exchange rates, reciprocals, appreciation and depreciation, percentage changes and price conversions, with the quoting mistakes that cost marks.

Short on time? This page is the recap. For explanations and worked examples, use the full study guide.

Recap

  • In the foreign exchange market, one currency is swapped for another. The exchange rate is the price of one currency in terms of the other.
  • The same rate can be quoted both ways; the two quotes are reciprocals.
  • Appreciation: a currency buys more of the other currency. Depreciation: it buys less.
  • Against each other, if one currency appreciates, the other must depreciate.
  • In a flexible system, the rate is set by the people and firms buying and selling the currencies, for trade in goods and services and for buying assets.

Key relationships

Examples use the fictional valda (VD) of Valdoria and kesta (KS) of Kestria.

Relationship Rule Example
Reciprocal VD per KS = 1 ÷ (KS per VD) 1 VD = 4 KS → 1 KS = VD 0.25
Home price → foreign price price in VD × (KS per VD) VD 30 × 4 = KS 120
Foreign price → home price price in KS ÷ (KS per VD) KS 2,000 ÷ 4 = VD 500
% change in a currency’s value (new price of that currency − old) ÷ old × 100 4 → 5 KS per VD: valda +25%
The other currency’s % change use its own price (the reciprocal) 0.25 → 0.20 VD per KS: kesta −20%

Assumptions behind the numbers

  • Rates are quoted without buy–sell spreads or fees.
  • Goods keep the same price in their home currency unless told otherwise.
  • Drawing the market graph (Topic 6.3) and the causes of shifts (Topic 6.4) are separate topics.

Mistakes to avoid

  1. Ignoring the “per”. A higher number can mean appreciation or depreciation depending on the quote.
  2. Flipping the sign of a percentage. +25% for one currency is −20% for the other.
  3. Multiplying instead of dividing. Check the units cancel.
  4. Rounding reciprocals too early. Keep four decimal places.
  5. Saying both currencies appreciated against each other.

Quick self-check

  1. 1 VD = 2.5 KS. What is the price of 1 KS in valdas? (VD 0.40)
  2. The rate moves from 1 VD = 4.0 KS to 1 VD = 3.2 KS. Which currency appreciated, and by what percentage? (The kesta, by 25%; the valda depreciated by 20%.)
  3. A Kestrian book costs KS 600 when 1 VD = 4 KS. What does it cost in valdas? (VD 150)

Next: practice questions.

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