Alan and Bob each own a bar. Alan's is in very northern New York, and Bob's is just across the border in Canada.

As it turns out, at the beginning of this problem, a Canadian Dollar is worth exactly the same as the U.S. Dollar, and people are quite accustomed to using them interchangeably (including banks).

But, alas, the U.S. Government and the Canadian government get in a spat. So, the U.S. "devalues" the Canadian dollar 10%, so now they will treat it as worth 90 cents (U.S. currency). In retaliation, Canada does the same and "devalues" the U.S. dollar 10%, so they treat it as worth 90 cents (Canadian currency).

Enter Charlie.

Charlie goes to Alan's bar and purchases a 1 dollar drink and pays with a 10 dollar bill (U.S.). He receives, in change, a 10 dollar bill (Canadian). He then walks across the border to Bob's bar and purchases another 1 dollar drink, paying with a 10 dollar bill (Canadian), and he receives, in change, a 10 dollar bill (U.S.).

Charlie proceeds to continue doing this until he finds himself quite intoxicated.

I think it obvious that Charlie is gaining on these transactions. The question is.... WHO (if anyone) is losing out on these transactions?

If the barmen in question, Alan and Bob, had received their respective foreign currencies, that they are using to make change, before the devaluations, then they are the losers, in the ordinary sense of holding money that has been devalued.

But as time goes on, the only way Alan and Bob will have such opposite-country currency is by more people from over the border spending their money there. When this happens, those Canadians spending their hard-earned Canadian dollars in Al's bar lose out 10% of their value, as Al considers their $10 bill to be worth only $9 worth of drinks. Those customers would get full value if they stayed at home. Likewise Americans using money earned in the U.S. at full scale, spending their money at Bob's lose out.

So the answer: the first few such transactions are the loss of Al and Bob, but an ongoing basis, the barkeep's supply of foreign currency is replenished by people from the other country, who lose out by crossing the border to drink using their native currency.

Posted by Charlie on 2003-10-31 09:50:53