Suppose that the euro’s exchange rate in terms of the Canadian
dollar is 1.5769. According to PPP, what will happen to the
exchange rate under each of the following circumstances? In each
case, which currency (the dollar or euro) will appreciate or
depreciate and by how much, and what is the level of the new
exchange rate.
a. The Canadian price level increases by 10 percent and the
price level in Europe stays constant.
b. The Canadian price level increases by 10 percent and the
price level in Europe increases by 20 percent.
c. The Canadian price level decreases by 10 percent and the
price level in Europe increases by 5 percent.
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