A haircut costs 200 pesos in Mexico and $20 in the U.S. The exchange rate is 12.5 pesos per dollar. The real exchange rate is

Question

Quizplus · Accepted Answer

To compare the cost of haircuts in Mexico and the U.S., we need to convert Mexican pesos to U.S. dollars using the exchange rate.

200 pesos ÷ 12.5 pesos per dollar = $16

So the price of a haircut in Mexico is $16. Since $16 is less than $20, haircuts in Mexico are cheaper than in the U.S.

To calculate the real exchange rate, we need to divide the price level in Mexico (in pesos) by the price level in the U.S. (in dollars) and then divide by the exchange rate.

Price level in Mexico (in pesos): 200 pesos 
Price level in the U.S. (in dollars): $20 
Exchange rate: 12.5 pesos per dollar

(200 / 12.5) / 20 = 0.8

The real exchange rate is 0.8, which is less than one. This means that haircuts in Mexico are cheaper than in the U.S. even when we take into account the exchange rate.

A Haircut Costs 200 Pesos in Mexico and $20 in the U.S