A simple example D A world with only;' two countries and two goods Country Computers Ice cream Price of Price of ice produced per produced per computers local cream local capita capita unite unite USA 12 4 2 4 Mexico 3 l 1 1 III USA is richer than Mexico (4 times richer) III Prices in US dollars and Pesos (different currencies) o Prices are ratios of the currencies D Ice cream is nontradaole III Computers are perfectly;r tradable at zero cost o Can ouyr it in one country and sell it in another (and make a profit). exchange rate will adjust D Equilibrium market exchange rate between dollars and pesos must be 2:1. Why? o No possibility of profit III Market exchange rate reflects the price of the tradable good