The overall price level of a basket of traded goods in the U.S. is $12,266.

The overall price level of the same basket of goods in Mexico is MP 131,010

(MP refers to the Mexican peso). The actual exch

ange rate is MP/$ = 10.91,

i.e. MP 10.91 exchanges for $1.

(a)

Does purchasing power parity exist? If not, which currency is

undervalued, and which is overvalued? Explain briefly.

(b)

If PPP does not exist, what should happen to the exchange

rate, i.e.

what is the correct exchange rate according to the PPP theory?