Question

select one purchasing power parity approach and explain why you chose it. Assess the approach you selected, identifying its characteristics and advantages for forecasting.

Answer 1

The purchasing power parity approach that I have selected is the “short cut” approach. I have selected this approach as in this approach purchasing power parities are estimated based on structural relationships between real national income in a country and associated monetary and/or non-monetary indicators. This approach provides with a basis for estimating purchasing power parity using shortcuts that are based on monetary indicators, nominal income and other such variables. Most importantly this approach is a substantial improvement over the method that makes use of exchange rates.

The advantages of forecasting using the short cut approach is that the forecasts are more reliable. This is because this approach makes use of regression techniques and hence leads to proper extrapolation of ICP PPPs (international comparison program purchasing power parity). Another advantage in case of this approach is that post adjustment indexes can be used in this case.