With reference to the Indian economy, consider the following statements:
1. An increase in Nominal Effective Exchange Rate (NEER) indicates the appreciation of rupee.
2. An increase in the Real Effective Exchange Rate (REER) indicates an improvement in trade competitiveness.
3. An increasing trend in domestic inflation relative to inflation in other countries is likely to cause an increasing divergence between NEER and REER.

Which of the above statements are correct?

(a) 1 and 2 only

(b) 2 and 3 only

(d) 1, 2 and 3

APEDIA

UPSC Prelims

2022 • 05 Jun, 2022 • Paper-1

With reference to the Indian economy, consider the following statements:
1. An increase in Nominal Effective Exchange Rate (NEER) indicates the appreciation of rupee.
2. An increase in the Real Effective Exchange Rate (REER) indicates an improvement in trade competitiveness.
3. An increasing trend in domestic inflation relative to inflation in other countries is likely to cause an increasing divergence between NEER and REER.

Which of the above statements are correct?

Correct Answer

Statement 1 Analysis: Correct. NEER represents the unadjusted weighted average rate at which one country's currency exchanges for a basket of foreign currencies......

💡 Analysis & Explanation

Statement 1 Analysis ▼

Correct. NEER represents the unadjusted weighted average rate at which one country's currency exchanges for a basket of foreign currencies. An increase denotes appreciation of the domestic currency.

Statement 2 Analysis ▼

Incorrect. REER is the inflation-adjusted NEER. An increase in REER means exports become more expensive and imports cheaper, which actually indicates a decline in trade competitiveness.

Statement 3 Analysis ▼

Correct. Since REER factors in inflation differences between a country and its trading partners, a higher domestic inflation rate compared to global rates will naturally cause REER to deviate further from NEER.

Conclusion ▼

Statements 1 and 3 are accurate.

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