Question

Do you think that a country experiencing hyperinflation is more or less likely to have an exchange rate equal to its purchasing power parity value when compared to a country with a low inflation rate?

a) More likely, as hyperinflation attracts foreign investment.
b) Less likely, as hyperinflation erodes currency value.
c) More likely, as hyperinflation indicates economic growth.
d) Less likely, as hyperinflation signals economic stability.

Answer 1

A country with hyperinflation is less likely to have an exchange rate equal to its purchasing power parity value because hyperinflation leads to rapid currency depreciation and less demand for the currency.

Step-by-step explanation:

A country experiencing hyperinflation is less likely to have an exchange rate equal to its purchasing power parity (PPP) value when compared to a country with a low inflation rate. When a country is undergoing hyperinflation, it implies an excessive rate of inflation that rapidly erodes the currency's value, leading to less demand for that currency on exchange rate markets. As a result, the currency depreciates in value compared to foreign currencies.

In the medium run of a few months or a few years, inflation rates significantly influence exchange rate markets. However, over long periods of many years, exchange rates tend to adjust toward the PPP rate. This rate ensures that the prices of internationally tradable goods in different countries, when converted at the PPP exchange rate to a common currency, are similar across economies.