Considering Purchasing Power Parity and the Law of One Price: a. Assume that the current price...

Considering Purchasing Power Parity and the Law of One Price:

a. Assume that the current price of a Big Mac in the United States today is $2.75. Assume also that the current price of a Big Mac in Malaysia is 6.5000 ringgits and that the current USDMYR exchange rate is 3.0250 ringgits per $. What is the implied PPP of the USD?

b. Using the assumptions above, what is the under (-) / over (+) valuation of Malaysian ringgits versus the U.S. dollar in percentage terms?

c. What are the long-term implications associated with your answer to part b.?

Solutions

Expert Solution

According to purchase power parity the price of same commodity in two different countries should always remain same.If any commodity is available at cheaper rates in one country people would start buying from that country and the demand for the currency of that country would increase .It would lead to increase in the exchange rate as a result the ultimate cost of buying would also increase and it will keep on increasing unless the cost of buying the same commodity from both the countries becomes equal.

Compute the purchase power parity in the following manner:

jeff jeffy answered 1 week ago

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