3.4 Implied Exchange Rates Flashcards
The current exchange rate is 17.31 MXN per 1 USD. A Toyota Corolla costs $20,000 in San Antonio, Texas. A similar Toyota Corolla costs MXN 400,000 in Monterrey, Mexico.
What is the implied (or implicit) exchange rate based on the price of the Corollas in San Antonio and in Mexico?
20 MXN per 1 USD
Divide the price of the Corolla in pesos by the price of the Corolla in U.S. dollars to get the implicit exchange rate between the MXN/USD.
The actual exchange rate is 17.31 MXN/USD. What should the price in pesos of the Corolla be in Monterrey to cost the same as in San Antonio after considering the exchange rate? Ignore taxes or legal import/export restrictions.
346,200 MXN
Multiply the price in USD times the actual exchange rate of 17.31 MXN per USD to find the price in Mexico. By the way, in Mexico you will have to pay in pesos (not dollars).
What market forces can make the cost of the Corolla similar in both countries? Mark all that apply, ignoring taxes and trade restrictions.
Increased trade: If the price of the car is lower in the U.S. than in Mexico, people will start importing cars from the U.S. This will increase the supply of cars in the higher-priced country and drive down the price there.
Changes in the exchange rate between the two countries can also affect the price of the car. For example, if the Mexican peso rises against the US dollar, the price of a car in Mexico will become more expensive, measured in US dollars. This will encourage Mexicans to buy cars in the US, which will drive up the price of cars in the US and lower the price of cars in Mexico.
Are you not sure how this would work? Suppose the Corolla costs 400,000 MXN in Mexico. Suppose that the MXN appreciates versus the USD to 16 MXN/USD. This means that the Corolla now costs the equivalent of about 25,000 USD (or 400,000 MXN / 16 MXN = 25,000 USD).
