Considering the theory of purchasing power parity, if inflation in Mexico is 5% while prices in the U.S.are stable; we should expect:
A)The dollar to appreciate 5% relative to the peso
B)The peso to appreciate 5% relative to the dollar
C)The nominal exchange rate to stay fixed
D)The real exchange rate of U.S.goods / Mexican goods to appreciate 5%

Question

Quizplus · Accepted Answer

According to the theory of purchasing power parity, if inflation in Mexico is higher than in the U.S., the currency with higher inflation (the peso) should depreciate relative to the currency with lower inflation (the dollar) to maintain purchasing power parity. Thus, the dollar should appreciate relative to the peso.

Considering the Theory of Purchasing Power Parity, If Inflation in Mexico