Answer
Peso appreciates
Work Step by Step
Reasons why the U.S. demand for pesos is downsloping:
- The demand for pesos comes from Americans wanting to buy Mexican goods, services, or assets.
- If the peso becomes more expensive (appreciates), U.S. goods are relatively cheaper for Mexicans, but Mexican goods and services become more expensive for Americans, so Americans buy fewer pesos.
- Hence, as the peso price rises, quantity demanded falls → downsloping demand curve.
Reasons why the supply of pesos to Americans is upsloping:
- The supply of pesos comes from Mexicans wanting to buy U.S. goods, services, or assets.
- If the peso becomes more expensive (stronger relative to the dollar), it takes fewer pesos to buy dollars, making U.S. goods cheaper in peso terms.
- More Mexicans want dollars to buy U.S. goods → they supply more pesos to the FX market.
- Hence, as the peso price rises, quantity supplied rises → upsloping supply curve.
When U.S. reduces tariffs on Mexican products, Americans demand more Mexican goods → more demand for pesos → peso strengthens.
