Problem
This question considers long-run policies in Mexico relative to Canada. Assume Mexico's money growth rate is currently 4% and its inflation rate is 2%. Canada's money growth rate is 6% with a 3.25% inflation rate. The world real interest rate is 0.75%. For the following questions, use the conditions associated with the general monetary model. Treat Canada as the home country and define the exchange rate as Canadian dollars per Mexican pesos, ECAD/M.
1. Calculate the growth rate of real income in each country.
2. Calculate the nominal interest rate in each country.
3. Calculate the expected rate of depreciation in the Canadian dollar relative to the Mexican peso. Is the Canadian dollar appreciating or depreciating against the Mexican peso?