Question

Does Purchasing Power Parity appear to hold if we compare two countries India and U.S? Please illustrate with an example and a data.

Answer 1

Purchasing power parity (PPP) is a financial hypothesis that analyzes distinctive nations' monetary forms through a "bushel of products" approach. As per this idea, two monetary standards are in balance or at standard when a crate of merchandise (considering the conversion scale) is evaluated the same in the two nations.

PPP between India and United Kingdom (UK) where one being domestic and another being foreign country since Indian Economy is growing in an accelerating pace whereas IMF economic outlook (2010) believes advance economy countries will face challenges (which is true if we look at the European economy in the last 2years) some factors liable are due to the uncertainty of the financial sector, increased in funding cost, consumers and businesses lower confidence reducing the private consumption and investment. On the other hand, IMF believes India's economy growing at an accelerating pace and is highly likely to raise more near future. One of the main reasons is because of their domestic demand of their goods all over their country and so as the demand has increased all over the world which leads to increase in their exports and eventually results in economic growth.

For example, if one kg of Potato costs INR 18 in India and similar quality of potato costs 50 cents in USA, then the PPP exchange rate would be INR 36 per USD. This is the absolute version of theory of purchasing power of parity. In other words, the exchange rate between two currencies can be represented as

Spot Rate = Price INR/ Price USD