Question

A can of soda costs $1.25 in the united states and 25 pesos in mexico. assume purchasing-power parity holds. the peso–dollar exchange rate is

Answer 1

Purchasing power parity assumes that the exchange rate between two countries (in this case, Mexico and the US) are stable and in equilibrium. If that is the case, we can easily calculate the exchange rate with the items being provided in a 1:1 ratio. One can of soda (25MX) : One can of Soda (1.25US) would simplify to 1MX:.05US, or 1 Mexican Peso is exchanged at the rate of $0.05 US. (1 Peso = 5 cents USD)