Scenario: Color-Me-Green Inc.
Color-Me-Green Inc., a U.S.-based clothing merchant, has started doing business internationally. Having subsidiaries in several countries, the company must integrate financial information from all its subsidiaries with the U.S. home office at the end of the year.
-Suppose Country A has a currency called the Pulse (P).At the beginning of the year,the exchange rate between the Pulse and the U.S.dollar was P150/$.The inflation rate in Country A is running at an annual rate of 250 percent,whereas inflation in the U.S.is running at 2 percent.Which of the following would most likely be the new exchange rate that Color-Me-Green can expect at the end of the year?
A) P525/$
B) P514.70/$
C) P43.71/$
D) $43.71/P

Question

Quizplus · Accepted Answer

The new exchange rate can be estimated using the concept of purchasing power parity (PPP), which suggests that the exchange rate adjusts so that an identical good in two different countries has the same price when expressed in the same currency. Given the high inflation rate in Country A compared to the U.S., the Pulse is expected to depreciate. The calculation involves adjusting the initial exchange rate by the inflation differential. The option that closely matches the expected depreciation due to the high inflation differential, without doing the exact math, is P514.70/$, as it reflects a significant depreciation of the Pulse relative to the dollar, which is consistent with the high inflation rate in Country A.

Scenario: Color-Me-Green Inc. Color-Me-Green Inc., a U.S.-Based Clothing Merchant, Has Started Doing Business