Economics Assignment Purchasing Power Parity

Running head: PURCHASING POWER PARITY
Purchasing Power Parity
Name of the Student
Name of the University
Author Note

1PURCHASING POWER PARITY
Executive Summary
The report aims to look into the factors affecting the Purchasing Power Parity for individuals
across different countries. This is a concept in Economics, which says that the exchange rate
of two countries is directly proportional to the ratio of the purchasing power of those
respective currencies. Purchasing Power Parity concept helps in analyzing what the rate of
exchange between two countries must be, so that the exchange maintains parity with the
purchasing power of the currencies of two countries. PPP helps in determining the costs
though profits get excluded. Hence, this is an efficient method when compared to the market
exchange rates. The problems and the factors influencing Purchasing Power Parity would be
taken into consideration. The product considered for preparing the report is McDonald’s Big
Mac, where an analysis would be carried with discussions on the price of Big Mac in local
currency against US Dollars in 10 selected countries. The selected countries for the
assignment are United States, Brazil, Denmark, China, Australia, Malaysia, Egypt, Russia,
Hong Kong and South Korea. The prices will be compared to determine to what extent a
country’s currency is overvalued or undervalued with the required calculations and thereafter
justifications would be provided whether or not, Purchasing Power Parity method is
appropriate for Big Mac. The report would conclude by stating the relative advantages of
Purchasing Power Parity method over the market exchange rates.

2PURCHASING POWER PARITY
Table of Contents
1. Introduction............................................................................................................................3
2. Discussion..............................................................................................................................4
2.1 Concept of Purchasing Power Parity................................................................................4
2.2 Analysis and Discussions on the price of Big Mac in local currency against US Dollars
in 10 selected countries..........................................................................................................7
2.3 Determine how much of a currency of a country is overvalued or undervalued against
US Dollars after the calculations and provide justifications whether PPP holds good for
Big Mac..................................................................................................................................9
3. Conclusion............................................................................................................................10
4. References............................................................................................................................11

3PURCHASING POWER PARITY
1. Introduction
The report is aimed to look into the concept of Purchasing Power Parity, by taking the
Big Mac product of McDonald’s and comparing the prices in US Dollars with the currencies
of other countries 1.
This concept in Economics says that the rate of exchange between two countries is
equal when the purchasing power in both the countries is similar. This is a relative measure to
analyze the changes in prices of products, affecting the purchasing power over a period of
time.
McDonald’s Big Mac is considered for preparing the report, whereby 10 countries are
considered to compare their local currency with the US Dollars and determine the price
fluctuations in them. The countries considered for comparison are United States, Brazil,
Denmark, China, Australia, Malaysia, Egypt, Russia, Hong Kong and South Korea.
There are certain factors which affect the purchasing power parity. The factors include, prices
of the commodities, kind of employment and wages provided to the consumers, currency and
credit availability 2.
. All these factors impact the purchasing of customers across nations. There are also
certain problems, which arise due to the application of this method. These include, the
method is based on statistics, related to the way parity computation is done. Only a sample of
a commodity is considered, where the real price indices are calculated from that sample,
rather than considering all the commodities present in an economy. Another problem is that
1 Engel, C., 2013. Exchange rates and interest parity (No. w19336). National Bureau of Economic Research.
2 Giovannetti, G., 2013. A survey of recent empirical tests of the purchasing power parity hypothesis. PSL
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