Suppose it takes 1.25 yen to buy a rupee, and the price level in Japan is 3 and the price level in India is 1.2. Calculate the real exchange rate between India and Japan (the price of Japanese goods in terms of Indian goods).
Price level in foreign country: (Japan) Pf = 3
Price level in home country: (India) P = 1.2
Now, real exchange rate `= e(P_f)/P`
Price of 1.25 yen = 1 rupee
Price of 1 yen` =1/25=100/125 = 4/5`
Therefore, `e = 4/5`
So, real exchange rate `=e(P_f)/P`
Therefore, the real exchange rate is 2.
First find out the nominal exchange rate as a price of yen in rupees.