Price indices in the United States and the United Kingdom are currently P0$ = $2000 and P0£ = £10, respectively. The spot rate of exchange is S0£/$ = £0.80/$. Inflation rates are expected to be i$ = 2 percent and i£ = 3 percent per period, respectively, over the foreseeable future.
a. Looking one year into the future, what are the expected levels of the price indices E[P1$] and E[P1£] and the expected nominal spot rate of exchange E[S1£/$]?
b. Looking two years into the future, what are the expected price levels [P2$] and E[P2£] and the expected nominal spot rate of exchange E[S2£/$]?