What does PPP hold mean?

CFA Level II Economics
#1

When they note that PPP holds. What does that mean?

#2

That means that inflation for the two currencies is the same: if one currency loses 1% in purchasing power, the other currency loses 1% in purchasing power.

#3

Thanks magic

#4

You’re welcome.

#5

That’s not what it means, that’s just one way of maintaining PPP.

it means goods are priced the same anywhere, and exchange rates reflect that equilibirum. In another scenario, a 1% inflation in one currency means a depreciation in it’s FX rate by 1% as well, to keep goods priced the same internationally.

#6

What does magician think about that?

#7

MrSmart’s correct. I was trying to simplify it a bit.

In practice, he and I are in agreement.

#8

Another way to see things that is congruent with the previous posts.

You can derived an exchange rate by comparing the price of baskets of goods. The Economist newpaper has create the Big Mac index.

If a Big Mac costs USD2.500 in the US and CAD 3.00 then the exchange rate is 0.833CAD/USD (2.5/3)

Thre are shortcomings. Imports restrictions, farm quotas…etc will distort everything.

Also, canadian beef is so much tastier than US beef and it should command a premium