Consider the interest parity condition of the asset approach

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Reference no: EM133401601

Question: Consider the interest parity condition of the asset approach to exchange rates for two countries, Mexico and Canada. Let the exchange rate be defined as Mexican pesos per Canadian dollar, (EPesos/C$).

For each of the cases, explain the effects on the following variables from the perspective of a Mexican investor: (i) expected rate of return on Mexican deposits, (ii) expected rate of return on Canadian deposits (in pesos), (iii) interest rates in Mexico (RPeso) and in Canada (RC$), and (iv) the nominal exchange rate (EPesos/C$). Use graphs to complement your explanations in each case. Label the graphs with EPesos/C$ as the exchange rate on the vertical axis and the rate of return in pesos on the horizontal axis.

a)Canada's interest rate increases

b) Investors in the market anticipate an appreciation in the peso.

c) Mexico's interest rate decreases as a result of a money supply increase in Mexico.

Reference no: EM133401601

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