Assume that canada decides to peg its cur rency the canadian...

Assume that Canada decides to peg its cur-rency (the Canadian dollar) to the U.S. dollar and that the exchange rate will remain fixed. Assume that Canada commonly obtains its imports from the United States and Mexico. The United States commonly obtains its imports from Canada and Mexico. Mexico commonly obtains its imports from the United States and Canada. The traded products are always invoiced in the exporting country’s cur-rency. Assume that the Mexican peso appreciates substantially against the U.S. dollar during the next year

Transcript

00:01 So here we have a situation where the united states dollar is going to inflate.

00:06 So the u .s.

00:08 Dollar is going to be worth less.

00:09 This should say that the u .s.

00:11 Dollar is going to depreciate and the peso is going to appreciate.

00:15 And hopefully that makes some intuitive understanding, but that's far from a full explanation of why.

00:20 And there's a few ways in the literature or, you know, in economics more broadly, that you can appeal to this, right? the first one is sort of an interest rate parity argument.

00:31 You can say that how do we think of equilibrium in the foreign exchange market? well, one way we could formalize equilibrium in the foreign exchange market is to say that investing in every different currency should earn you the same amount of goods and services.

00:50 Because if investing in one currency earned you a greater amount of goods and services, people would reallocate resources to that currency, drive the price up and drive the returns down.

01:01 Sort of like a competition argument, right? so if this sort of interest rate parity prevails, then you should say, look, the u .s.

01:11 Dollar is going to be weaker in the future.

01:15 So it is going to buy less stuff.

01:17 If i keep my money in the united states, it will be able to buy less stuff because the future united states i will be holding.

01:25 Will be worth less, right? so i need a compensation for, i'm unwilling to hold u .s.

01:34 Dollars.

01:34 That means that people will get rid of the u .s.

01:36 Dollars, right? so the u .s .d.

01:41 Worth less goods...