During the 1990s, Mexico had a fixed exchange rate peg of its currency against the $US. The peg was abandoned in an exchange rate, banking and debt crisis in 1994- 1995.
a) Explain the implications of this exchange rate regime for the efficacy of monetary and fiscal policy. Why do you think the Mexican government was willing to sacrifice its ability to use independent monetary policy in order to peg the exchange rate?
b) Show that relative purchasing power parity implies that fixed exchange rates can eliminate high inflation.
c) Discuss the fact that exchange rate crises tend to be associated with banking and public debt crises and default. Reference the balance sheet effects of exchange rate crises in particular.