Suppose that two countries, Brazil and Mexico, produce bananas. Brazil uses the real; Mexico uses the peso.
Question:
Suppose that two countries, Brazil and Mexico, produce bananas. Brazil uses the real; Mexico uses the peso. In Mexico, bananas sell for 10 pesos per pound of bananas. The exchange rate is 0.5 real per peso Ereal/peso = 0.5. The peso–dollar exchange rate is Epeso/$ = 10.
a. If LOOP holds, what is the price of bananas in Brazil? What is the price in the United States?
b. Suppose the price of bananas in Brazil is 5.5 reals per pound. At the same time, the price of bananas in the United States is $1.00 per pound. Based on this information, where does LOOP hold?
c. How will banana traders respond to the previous situation? In which markets will traders buy bananas? Where will they sell them? What will happen to the prices of bananas in Mexico, Brazil, and the United States?
Step by Step Answer:
a The prices implied by LOOP are as follows b LOOP holds in ...View the full answer
