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Purchasing Power Parity and Carrytrade

I need help with the below questions:
1. How is the purchasing power parity of the Euro (€) relative to the Pound Sterling (£) and US Dollar ($) affected by a Greek exit from European monetary union? What is the impact on European and American debt, equity, and mortgage markets?

2. With regards to current economic conditions, what is the effect of a large carry trade on U.S. monetary policy?

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Solution:
1. The purchasing power parity of the Euro relative to the Pound Sterling and the US Dollar will be directly affected by a Greek exit from European monetary union (1). A Greek exit from the Euro will lead to contagion. Deposition will draw their deposit from banks in Ireland, Portugal, Spain, and Italy. These are the periphery countries. Foreign banks will refuse to extend credit to companies in these countries; foreign companies may withdraw from these countries.

If Greek exit is implemented, the Drachma has to be introduced in Greece instead of the Euro and there will be a sharp devaluation of the Drachma (2). This will make exports more attractive but the firms in Greece will not be able repay debt in euro. Default will affect the value of the Euro. The purchasing power of euro will ...

Solution Summary

This solution explains Greece exit, purchasing power parity and carry-trade. The sources used are also included in the solution.

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