Question

If Relative Purchasing Power Parity holds, US dollar inflation is 5 percent, and Mexican peso inflation is 12 percent, which of the following is the best answer?

a. The cost in US dollars for American tourists to Mexico will increase at 5 percent
b.The cost in US dollars for American tourists to Mexico will increase at 12 percent
c.The cost in US dollars for American tourists to Mexico will increase at 17 percent
d. The cost in Mexican pesos for Mexican tourists to the US will increase at 5 percent
e.The cost in Mexican pesos for Mexican tourists to the US will increase at 12 percent
f. The cost in in Mexican pesos for Mexican tourists to the US will increase at 17 percent
g. c and f
h. a and e
i. b and d

Answer 1

If Relative Purchasing Power Parity holds, the cost in Mexican pesos for Mexican tourists to the US will increase at 17 percent.

Step-by-step explanation:

If Relative Purchasing Power Parity holds, US dollar inflation is 5 percent, and Mexican peso inflation is 12 percent, the correct answer would be option f. The cost in Mexican pesos for Mexican tourists to the US will increase at 17 percent.

Relative Purchasing Power Parity suggests that the exchange rate between two currencies adjusts to reflect the differences in their inflation rates. In this case, since the Mexican peso has a higher inflation rate than the US dollar, the value of the peso relative to the dollar will decrease. As a result, it will cost Mexican tourists more pesos to purchase the same amount of US dollars, leading to a 17 percent increase in the cost in Mexican pesos for Mexican tourists to the US.