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Question 17 Suppose that the spot exchange rate between the Mexican peso and the US dollar is MXN22/$1. The inflation rate in Mexico is 10%

Question 17

Suppose that the spot exchange rate between the Mexican peso and the US dollar is

MXN22/$1. The inflation rate in Mexico is 10% whereas the inflation rate in the US is 3.5%. Assuming purchasing power parity, answer the following questions:

a. Calculate the spot exchange rate after three years. (3 marks)

b. Identify the effect on the Mexican peso over the three years. (2 marks)

c. Analyze the effect of this development on the balance of trade between Mexico and the US? (3 marks)

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