The price of one currency in terms of the other is known as the exchange rate. Nominal exchange rates are bilateral in the sense that they are exchange rates for one currency against another and they are nominal because they quote the exchange rate in money terms, i.e. so many rupees per dollar or per pound.
However, the real exchange rate is the ratio of foreign to domestic prices, measured in the same currency. It is defined as Real exchange rate = ePf/P where P and Pf are the price levels here and abroad, respectively, and e is the rupee price of foreign exchange (the nominal exchange rate).
The real exchange rate is often taken as a measure of a country’s international competitiveness. Therefore, real exchange rate is considered to be more relevant.
