The relationship between nominal exchange rate and relative prices from the annual observation from 1980 to 1994, the following regression results were obtained, where Y= exchange rate of the German mark to the U.S. dollar (GM/$) and X= ratio of the U.S. consumer price index to the German consumer price index; that is, x represents the relative prices in the two countries:

Y hat= 5.682-3.318x_tR²=0.52

Se=(1.333)(1.555)

Interpret the regression results above.

Comment on the value of R²

Does the negative value of X_t make economic sense? What is the underlying theory?

Suppose we were to redefine X as the ratio of German CPI to the U.S. CPI, would that change the sign of X and why?