Question
In: Economics
What is the concept of the Law of One Price? What is absolute PPP? What is relative PPP?
What is the concept of the Law of One Price?
What is absolute PPP? What is relative PPP?
What is the rationale behind PPP?
What are some possible explanations for the deviations from the purchasing power parity?
Solutions
Expert Solution
Law of one price means that a good will cost the same price in
all countries.
Absolute PPT means that exchange rate is the ratio of cost of one
good in two different countries.
Eg. Dollar-euro exchange rate = Price of Mac burger in US/Price of
Mac burger in Europe
Relative PPP predicts that movements in inflation rate depends upon
changes in inflation rate in the two countries over a period fo
time.
Rational behind PPP is that exchange rate will adjust to equate price of good globally so that there are no opportunites for profit by arbitrage.
Possible reasons for deviation
1. Transportation costs
2. Some goods are not tradable e.g. haircuts
3. Import tarrifs and quota
Rahul Sunny answered 2 years agoRelated Solutions
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