Question:

Assume that Australia trades mostly with two countries only, the United States and the United Kingdom, and that 65% of the trade is conducted with the United States, 30% with the United Kingdom, and 5% with the rest of the world. The exchange rates of the Australian dollar at two points in time, 0 and 1, are as follows:

Exchange Rate Period 0 Period 1

AUD/USD 1.4541 1.7800

AUD/GBP 2.1555 2.5700

i. Calculate an unweighted effective exchange rate index, using Period 0 as a base period in which the index assumes the value of 100.

ii. Calculate the normalised trade weights. [Provide your final answers to 2 decimal points]

iii. Calculate the trade-weighted effective exchange rate index using geometric approach, and explain the result with reference to the Australian dollar. [Provide numerical answers to 2 decimal points]