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Suppose the annual inflation rate in the US is expected to be 2.5 %, while it is expected to be 18.00 % in Mexico. The current spot rate (on 1/1/X0) for the Mexican Peso (MXN) is $0.1000. If the spot rate of MXN turns out to be $0.085 on 1/1/X1, the net cash flow of a US importer from Mexico will: Group of answer choices Increase Decrease

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Answer:

Increase

Explanation:

In putting the question into a better perspective let us assume that the US importer buys goods from Mexico every year to the Tune of 1,000,000 Mexican Pesos.

The expected exchange rate  on 1/1/X1=$0.1000*(1+2.5%)/(1+18%)

The expected exchange rate  on 1/1/X1=$0.086864407

Amount paid based on expected exchange rate=1,000,000*$0.086864407

Amount paid based on expected exchange rate=$86,864.41

Amount paid based on actual exchange=1,000,000*$0.085

Amount paid based on actual exchange=$85,000

The above means that the US importer paid a lesser amount($85000) than it should have paid, hence, its net cash flow would increase due to a reduction in payment

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