With reference to the Indian economy, consider the following statements:

An increase in Nominal Effective Exchange Rate (NEER) signifies rupee appreciation.

An increase in Real Effective Exchange Rate (REER) reflects improved trade competitiveness.

Higher domestic inflation compared to other countries increases the divergence between NEER and REER.

Which of the above statements are correct?

Question

The Nominal Effective Exchange Rate (NEER) and Real Effective Exchange Rate (REER) are indicators of external trade competitiveness.
Statement 1 is correct: NEER represents the weighted average of bilateral nominal exchange rates of the home currency against foreign currencies. An increase in NEER indicates rupee appreciation.
Statement 2 is incorrect: REER is the weighted average of NEER adjusted for relative price differences between domestic and foreign economies. A rise in REER suggests that exports become more expensive and imports cheaper, reducing trade competitiveness.
Statement 3 is correct: REER adjusts NEER for inflation differentials between the home country and its trading partners. Higher domestic inflation leads to a greater divergence between NEER and REER.

GKToday Admin · Accepted Answer

Only two

The Nominal Effective Exchange Rate (NEER) and Real Effective Exchange Rate (REER) are indicators of external trade competitiveness.
Statement 1 is correct: NEER represents the weighted average of bilateral nominal exchange rates of the home currency against foreign currencies. An increase in NEER indicates rupee appreciation.
Statement 2 is incorrect: REER is the weighted average of NEER adjusted for relative price differences between domestic and foreign economies. A rise in REER suggests that exports become more expensive and imports cheaper, reducing trade competitiveness.
Statement 3 is correct: REER adjusts NEER for inflation differentials between the home country and its trading partners. Higher domestic inflation leads to a greater divergence between NEER and REER.