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9. Purchasing-power parity holds between the nations of Ectenia and Wiknam, where the only commodity is Spam.a. In 2015, a can of Spam costs 4 dollars in Ectenia and 24 pesos in Wiknam. What is the exchangerate between Ectenian dollars and Wiknamian pesos?b. Over the next 20 years, inflation is expected to be 3.5 percent per year in Ectenia and 7 percent peryear in Wiknam. If this inflation comes to pass, what will the price of Spam and the exchangerate be in 2035? ($Hint:$ Recall the rule of 70 from Chapter 27.)c. Which of these two nations will likely have a higher nominal interest rate? Why?d. A friend of yours suggests a get-rich-quick scheme: Borrow from the nation with the lower nominal interest rate, invest in the nation with the higher nominal interest rate, and profit from theinterest-rate differential. Do you see any potential problems with this idea? Explain.
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two. Okay, this's talk to 31 section from nine. There are four part to the foul, and this first part were given that purchasing power parity holds that their two countries a taenia and with them that dam is $4 per cannon. A taenia enough, Obama's 20 says can in licking them. And we want to know what the exchange rate is. Their purchasing power Karen has been. It's on a lot of one prints. Basically, this means that the exchange rate between any two countries much about given the exchange ary the price of a good will be the same in both countries. Get this by simply dividing the cost of a can of spam in both countries. So here we have 24 pace of in Wickham with them divided by $4 a taenia. It's not going to give us six dollars heard peso or it could be one fixed. This is Pacer for dollars or $16 per pace him in part two and parking given that on inflation is 3.5% in a taenia inflation is 7% in Wickman. I mean that this level of inflation the last 20 years have given this information. What is the price of spam in each country after 20 years? And then what is the exchange rate? No, they're inflation is the rate by which prices increase over time. And so while the term inflation has generally used to describe the overall or aggravate price level, it can be used to describe individual goods. In this case like spin and recall. The rule of 17. The rule of 70 says that if variable in this case, bam groans and read a text percent per year now rose, it's time for a year. Then it's going to take 70 divided by X years, two double. They're looking at this problem. We see that inflation neck taenia is 3.5% who writes a 3.5% inflation. So if the president is increasing 3.5% per year, it's then going to take 70 Divided by report. Five, which equals 20 years to double involvements, were given in the question that this level of inflation well last for 20 years. Seven. Then the price of a point in double. So it wass remember these The last question it wass $4. It's them now. It's going to be, you know, four times. Teo Peoples, $8 four times balls dollars Now in witness, the inflation in 7% and again using the rule of 70. We see 70 divided by seven equals tense. I was going to double in value every 10 years. Um and so it's going to double twice over the 20 years of this problem and recall from the previous question that it was 24 I believe 24 pesos in with known. So now we have 24 times here. But that, too, is square because of compounding on because it's going to double twice to this equals Ba 96 pesos after 20 years and then this last part of the question where we want to find out the exchange rate. That's simply doing what we did apart. A. Where we're going now taken out into six pesos, we're going to divide it by now. $8 and we're going to get an exchange rate, uh, 12 pesos per dollar war one twelve $12. Her Haytham in part C were asked which of the two countries is gonna have a higher novel industry and why you recall from Chapter 24 that the interest rate is the industry that's reported without correcting translation and were given this formula at the rial interest very equals a nominal interest rate minus inflation. So just a little bit of rearranging. And this equation gives us that phenomenal interest rate well, interest rate plus inflation and also recall the fissure effect from Chapter 30 which is that the nominal interest rate is going to adjust one from one with inflation because in the long run, the money supplies in the long run longer than my supply is neutral. Inflation shouldn't really exists. Therefore, it has to in just 1 to 1 with that nominal interest rate, therefore, which the country is going to have the higher nominal interest rate. It's going to be the country with the highest level of inflation. And recalled from part B that wicked, um, has the highest level of inflation. So we expect Witton them tohave Wait, no, no, interesting. Lastly, and part d, we're saying your friend comes to you and says, Why don't we borrow from the country that have the lower interest and we invest in the country? I have the highest interest rates there. What's wrong? Get ready, Steve. The recall from Parts A and B. What happened to the exchange rate when we had differences in normal interest rate? So in part A, we see this interest rate of this exchange rate of six paces per dollar and in part be the interest rate they're The exchange rate is now 12 paces for dollars, and that's because of the difference in the nominal interest rate. So what's wrong with this scheme? Well, it's going to be. But if we take money on, we are Saranac Taenia 3.5%. We do really invest we by wicked and pictures, and we'll invest in Whitman Bonds. It's that pay 7% when we redeem those wicked ones and then go back and exchange those with many pesos for detainee in dollars. It's going to be that the exchange rate has changed Kanye's and the exchange rate well, completely in ruins. Any game from the high no interest rates there that there's talk if there's one Section one problem nine, and I hope that was helpful
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